Risk Analysis

Risk Analysis on Investment Decision

Silicon Arts is manufacturing company that is four years old. "It manufactures digital imaging Integrated Circuits (ICs) that are used in digital cameras, DVD players, computers, and medical and scientific instrumentation." (Capital Budgeting Simulation, 2007) Silicon Arts is looking to expand its business and has proposals that need to be examined. The two proposals are from Dig-image and W-Comm. Each company offers its own strengths and weaknesses. In this analysis, I will examine the assumption made while predicting sales, price, and marketing costs for the proposals. Also, I will be checking whether the capital expenditure schedules planned are optimal and accounting for hidden cash flows. Finally, I will be accommodating for the risks inherent in the proposals while also leveling the cash flow streams of the two proposals using annuity calculations. This will be done through looking at probable future scenarios of the operation cash flow, an analysis of the Capital Expenditure (Capex) decisions, and finally deciding on the appropriate proposal.

Operation Cash Flow

After looking at the market research report for both companies, the Net Present Value (NPV) was calculated for each proposal. "The Net Present Value is a basic quantitative technique for financial decision making though a net present value analysis. The NPV formula is calculated through a formula for an investment that generates cash flows in future periods. The formula assumes that the cash flow at date 0 is the initial investment (a cash flow)." (Ross, 2005, p.88) The NPV (in $ '000) for Dig-Image was 13,590 with an internal rate of return (IRR) of 30%. This was derived from an increase in the sales at 20% for years two and three and 10% increase in sales for years four through seven. W-Comm had an NPV (in $ '000) of 15,013 with an IRR of 31.7%. This was calculated with an even 15% sales increase in each year. The other factors that were considered into the NPV and IRR calculations were the price decrease and also the marketing costs of each interval in years for the company. These numbers helped me differentiate the numbers of the marketing research report that determine the estimated sales, volume, price, and marketing costs of each proposal.

Capital Expenditure Decisions

The main elements of the capital expenditures are the plant, machinery, and technology. In this section, I looked at the Dig-Image proposal and their plant and machinery decisions and also the technology decisions of the W-Comm proposal. The information provided helped to decide if the proposals were an opportunity or were considered a sunk cost. After looking at both proposals, the decision had to be made to go with one of two vendors, Hathaway and 6C or with J and T. I chose to go with J and T. This brought along another set of issues. I had to re-evaluate the vendor issue. After looking at the new