Assignment : NPV and Merger & Acquisitions



Part 1: Net Present Value

Net Present Value (NPV) method is one of the most important methods which is used to make capital budgeting decisions by almost every company. NPV method is important because it helps financial managers to maximize shareholders' wealth by making better capital budgeting decisions. Suppose T-Mobile Corporation is considering a new project that will cost $3,219,000 (initial cash outflow). The company has provided the following cash flow figures to you:

Year

Cash Flow

0

-$3,219,000

1

350,000

2

939,000

3

1,122,000

4

500,000

5

400,000

If the T-Mobile's cost of capital (discount rate) is 4%, what is the project's net present value? Based on your analysis and findings, what would you recommend to the executives and the shareholders of T-Mobile Corporation? Should the project be accepted? The shareholders of T-Mobile would also like to know the meaning of NPV concept.

Solution

1) Calculate present value (PV) of cash inflow (CF)

PV of CF = $2,802,898

2) Calculate NPV

NPV = $2,802,898 - $3,219,000 = ($416,102) @ r= 6%

Calculation

Period

Cash flows

Discount Factor

Discounted Cash flows

Subtotal

0

($3,219,000)

1

($3,219,000)

($3,219,000)

1

350,000

1.06

$330,189

2

939,000

1.1236

$835,707

3

1,122,000

1.191016

$942,053

4

500,000

1.26247696

$396,047

5

400,000

1.338225578

$298,903

$2,802,898

NPV at T=0

($416,102)

Discount Rate = 6%

Interpretation

NPV is a capital budgeting technique based on the techniques of discounted cash flow (DCF). It is a method for evaluating proposals for capital investment by obtaining the present value of net cash flows in the future, discounted at the cost of Capital Company or the required rate of return. The techniques of discounted cash flow (DCF) are methods to evaluate investment proposals that employ concepts of the value of money over time, two of these are the net present value method and the method of internal rate of return (Brounen, 2004, Pp 71-101).

For the implementation of this approach comes from the following (Chase, 2003, pp. 1753-1763):

Find the present value and each cash flow, including many inflows as output, minus the capital cost of the project.

Add up these discounted cash flows, this amount should be defined as the projected NPV.

If NPV is positive, the project should be accepted, while if the NPV is negative, should be rejected.

If the two projects are mutually exclusive, one with the highest NPV should be chosen, provided that the NPV is positive.

In our case, we have determined the negative NPV of $416,102. This is very important to understand implications of NPV. As we all know, ultimate goal of the any firm is maximization of shareholders wealth. NPV evaluates any project based on DCF technique and represents the value which will be contributed to the shareholders wealth. In case of T-mobile, a negative NPV means that it will decrease the shareholders wealth by $416,102. If it had been positive, it will increase the shareholders wealth. Since it is negative, the project should not be accepted.

Part II: T-Mobile Sprint Merger

Fundamentals of Mergers & Acquisitions

In the wake of new phenomenon in the markets which calls for greater level of efficiency in the course of operations and serving value added products and services to the customers, mergers & acquisitions have played a vital role to serve the ...