Hasbro Capital Budgeting Case

Finance Project

There are only a couple of key assumptions used in the creation of the NPV data. First, with respect to fixed costs, the wording "will increase by 3.8% over the life of the project" is ambiguous. We need an actual figure for each year. It is assumed therefore, in the interests of being conservative, that the word "annually" was accidentally omitted and fixed costs will increase 3.8% each year over the life of the project.

The sunk costs, it must be stated, were omitted from this calculation as they are not an incremental cash flow (Investopedia, 2015).

There is nothing stated about the return of working capital at the end of the project, so it is assumed that this money vanishes into the ether at the end of the project, because returning it would substantially increase the value of the project. Whether the working capital is returned at the end of the project or not is material to the decision to proceed or not. it is assumed that working capital will be returned at the end of the project. If the project tis extended, that would imply that extending the project is more profitable than returning that working capital and putting it to use elsewhere, so returning the working capital is the conservative assumption.

Hasbro's most recent debt issue was at 3.15%, and since that point the company's bond rating has not changed, and there has been no significant change in the prevailing interest rates as per Fernandez. The risk free rate is presently 0.2% on the three-month Treasuries, and the historic market risk premium is assumed to be 5.5%. Thus, Hasbro's cost of capital is as follows:

Hasbro Cost of Capital

Capital Structure

Cost

Debt

0.656

0.03165

0.0207624

Equity

0.344

0.0889

0.0305816

WACC

5.13%

rf

2.4

Beta

1.18

Rm-Rf

5.5

The calculation of the net cash flow for the action figures is as follows:

Action Figures

Price

7.00

7.25

7.50

7.76

8.03

8.31

Units

40.00

41.20

47.38

48.80

56.12

57.81

Revenue (mil)

Variable Costs

Fixed Costs

79.00

82.00

85.12

88.35

91.71

95.19

Free Cash Flow

86.20

94.11

tax

-22.41

-24.47

-32.37

-35.13

-45.31

-48.97

Net Cash Flow

63.79

69.64

92.13

99.98

The NPV, IRR and profitability index calculations are as follows:

2016

2017

2018

2019

2020

2021

2022

Working Capital

-131.00

-9.30

-9.96

-10.67

-11.43

-12.24

Facilities

-372.00

78.00

Dep Benefit

9.67

17.41

13.93

11.14

8.92

7.13

Net Cash Flow

63.79

69.64

92.13

99.98

Cash Flows

-503.00

64.16

77.09

95.39

99.70

NPV

$99.31

IRR

13%

Profitability Index

1.20

d

8.63%

t

0.26

Based on the above analysis, the project should be undertaken. The reason is that the project has a positive net present value. Two other valuation metrics are provided, the IRR and the Profitability Index. Both of these are based on the same principle of present value, so all three metrics basically say the same thing. NPV is usually viewed as superior to the IRR because it provides more information used when choosing between multiple options, but if the company is only looking for a "go-no go" decision then it is no better or worse than the other two methods. They all say the same thing -- that the present value of the future cash flows is higher than the initial cost of the project. The NPV tells you how much dollar value is returned, the IRR tells the percent return and the PI also indicates a return.