Amazon Capital Budgeting: WACC and NPV Analysis
This paper presents a structured capital budgeting analysis for Amazon, walking through three sequential tasks: estimating capital structure using both book value and market value methods, calculating the weighted average cost of capital (WACC) using the CAPM, discounted cash flow, and bond yield plus risk premium approaches, and evaluating a proposed project's future cash flows through net present value (NPV), internal rate of return (IRR), profitability index (PI), and payback period analysis. The analysis concludes that the project should be accepted, as it yields a positive NPV, an IRR well above the discount rate, and a PI above 1.0, all of which signal significant value creation for Amazon's shareholders.
- Introduction: Overview of three-step capital budgeting analysis
- Estimating Capital Structure: Book and market value debt-equity weights for Amazon
- Weighted Average Cost of Capital (WACC): CAPM, DCF, and BYPRP used to calculate WACC
- Cash Flow Estimation: Depreciation tax shield and discounted cash flow table
- Project Evaluation Methods: NPV, IRR, PI, and payback period results
- Conclusion: Project accepted; shareholder value enhanced
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What makes this paper effective
- The paper follows a clear, logical sequence — capital structure, then cost of capital, then cash flow analysis — so each section builds directly on the previous one.
- Multiple methods are presented and compared (e.g., book value vs. market value; CAPM vs. DCF vs. BYPRP), and the author explicitly justifies which method is ultimately used and why.
- Numerical work is shown transparently, with formulas, intermediate calculations, and tabular data presented step by step, making the reasoning easy to follow and verify.
Key academic technique demonstrated
The paper demonstrates methodological triangulation in financial analysis — applying three separate cost-of-equity models and four separate project evaluation criteria (NPV, IRR, PI, payback period) to cross-validate a single investment decision. This approach strengthens the conclusion by showing that no single metric is relied upon in isolation.
Structure breakdown
The paper opens with a brief overview of its three-part structure, then moves sequentially through each task. The capital structure section computes book and market value weights before selecting the book value approach. The WACC section works through all three cost-of-equity methods before settling on CAPM. The cash flow section introduces a depreciation tax shield analysis, presents a multi-year cash flow table, and summarizes all four evaluation metrics. The conclusion is brief and ties results back to shareholder value creation.
Introduction
This paper presents a capital budgeting analysis for Amazon, examining whether the company should approve a proposed investment project. There are a number of sequential steps leading to this decision, and those steps make up the bulk of the analysis. The first step is to determine the capital structure of the company, which contributes to a weighted average cost of capital (WACC) calculation. There are two different ways of calculating capital structure — the book value method and the market value method. Both are calculated, but ultimately the book value method is used.
The next step is to calculate the weighted average cost of capital. In this section, the weights have already been established through the capital structure analysis, but the cost of debt and the cost of equity still need to be determined. These are analyzed using market information for both debt and equity. Three different methods of calculating the cost of equity are used: the Capital Asset Pricing Model (CAPM), the discounted cash flow model, and the bond yield plus risk premium (BYPRP) model. The CAPM figure is ultimately used to calculate the WACC.
The final step is to analyze the project's cash flows. Once the cash flows are identified, they are discounted using the WACC. The project is ultimately accepted because it produces a positive net present value (NPV).
Works Cited
Investopedia. (2013). Optimal capital structure. Investopedia. Retrieved April 21, 2013 from http://www.investopedia.com/terms/o/optimal-capital-structure.asp
MSN Moneycentral. (2013). Amazon.com. Retrieved April 21, 2013 from
No author. (2013). How to determine your WACC. Structuring Finance. Retrieved April 21, 2013 from http://www.structuringfinance.com/capital-structure/how-to-determine-your-wacc
Yahoo! Finance. (2013). Bond screener: Amazon. Retrieved April 21, 2013 from
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