Heritage

Brittney Henley Pd. 2A Chapter 12: Age of Religious Wars Key Topics; -War between Calvinists and Catholics in France. -The Spanish occupation of the Netherlands. -Struggle for supremacy between England and Spain. -The devastation of Central Europe during the Thirty Years’ War. Vocabulary |Notes | | | | |Counter Reformation- A movement within the Rome |Renewed Religious Struggle | |Catholic Church that sought to revitalize the |Peace of Augsburg (1555)- A regions rule would determine its religion, However it | |church and oppose Protestantism. did not recognize Non Lutheran Protestants | | |Geneva became a refuge for persecuted protestants and an international school for | |Baroque Art- 3 dimensional display of life and |protestant leaders | |energy. | | | | |Politiques- Ruler who urged tolerance and |French Wars of Religion | |moderation and compromise on religious matters |Anti-Protestant Measures and the struggle for political power | | |French Protestants are known as Huguenots. | |They were persecuted by the French, when King Charles of Germany / Spain captured | |Huguenots- French Protestants. |Frances King’. To pacify King Charles, France persecutes the Huguenots in the | | |hopes of gaining the freedom of the King of France. | | | | |Edict of Fontainebleau—Subjected French Protestants to the inquisition | | |France remain hostile to the protestants until King Henry of Navarre gains the | | |throne | | | | | |3 competing fraction for the Kings (Francis II) ear in France | | |Bourbons- power in the south and west | | |Montmorency-Chatillons- controlled the center of France | | |Guises- dominate in eastern France / Strongest power and had more influence over | | |the king due to family connection | | |Bourbons and Montmorency-Chatillons developed strong Huguenot sympathies | | | | | |Conspiracy of Amboise (1560) – Bourbons and Montmorency-Chatillons plotted to | | |kidnap the king of France (Frances II) | | | | | |Appeal of Calvinism | | |Huguenots were in important geographic areas and were heavily represented among | | |the more powerful segments of French society. They wanted to establish sovereignty| | |with in France. | | | | | |Catherine De Medici and the Guises | | |Catherine mother to 15 year old Frances II becomes the regent of France upon the | | |death of her husband Henry II. | |On the death of Frances II her younger son Charles IX becomes king where she | | |resides as regent. Catherine fears the power of the Guiles family and sought | | |alliances with the Protestants. | | |She issues the January Edict which allows protestants freedom to worship publicly | | |outside of towns. | | |Duke of Guise surprised a protestant congregation at Vassy, Champagne and | | |massacred the worshipers.

This is the beginning of the French wars of Religion | | |March 1562 | | | | | | | | |Peace of Saint-Germain-en-Laye (1570) | | |Ended the thirty year war, the crown acknowledging the power of the Protestant | | |nobility, granted Huguenots religious freedoms within their territory. | | |Catherine fearing the mounting power of the other two families and Protestants she| |Coligny: leader of the Huguenots, Charles IX most|cultivates the support of the Guise. | |trusted advisor. | | | |The Saint Bartholomew’s Day Massacre | | |Catherine tried to have Coligny assassinated by a bullet.

Fearing the fallout from| | |the attempt, she convinces King Charles that the Huguenots were attempting to | | |attack Paris | | |On Saint Bartholomew’s Day August 24, 1572, Coligny and 3000 Huguenots were | | |massacred in Paris. Within 3days another 20,000 were executed | | | | | |The Rise to Power of Henry Navarre | | |Henry III sought the middle ground and gained support from a growing body of | |Protestant Resistance Theory: |neutral Catholics and Huguenots. | | | |John Knox- wrote First Blast of the Trumpet |Peace of Beaulieu (May 1576)- granted the Huguenots almost complete religious and | |against the Terrible Regiment of Women |civil freedom. It was later recanted because of political pressure of the Catholic| |-He declared removal of a heathen tyrant was |League. Both religious orders pick up arms. | |permissible | | | |Henry Navarre led the Protestant army. Henry III brother-in-law) | |Francois Hotman- wrote Franco-Gallia | | |-Humanist argument that representative Estate |Day of the Barricades –Henry III surprise attack on the Catholic League (Spain | |General held more authority then the French king |Supported) and failed. Henry then assassinated the Duke and Cardinal of Guise. | | |Reprisal from the League was fierce causing Henry III to join forces with Henry | |Theodore Beza- wrote On the Right of Magistrates |Navarre. Henry III was killed; Henry IV (Navarre) is the next successor to the | |Over their Subjects |throne. |-Permissible for lower authorities to overthrow | | |tyrannical rulers |Protestant as king, the League wants France to be Catholic but politically weak so| | |Spain sends in troops to help achieve this goal in hopes of putting his daughter | |Philippe du Plessis Mornay- Defense of Liberty |on the throne. | |Against Tyrants |The French rallied behind their king disbanding the League and outing the Spanish. | |-Princes, Nobles and magistrates are guardians |Henry IV turns Catholic.

Ending the war of religion in France | |and to take up arms against tyranny in other land| | | | | | | | | |Edict of Nantes | | |Proclaimed a formal religious settlement it recognized minor religions in an | | |official Catholic country | | | | | |Treaty of Vervins -ended hostility between France and Spain | | | | | |Imperial Spain and the Reign of Philip II | | |Gold Silver and bullion were being imported from Spain’s colonies in the New | | |World. | | |The increased wealth and population in large cities in Europe triggered inflation. | | | | | |Fewer jobs, less food, wages stagnated and greater coinage in circulation while | | |prices increased. | | | | |The Revolt in the Netherlands- | | |Antoine Perrenot- Cardinal Granvelle. | | |Perrenot hoped to break the local autonomy of the Netherlands providences and | | |establish a centralized royal government directed from Madrid, and religious | | |conformity to Catholic. | | |Granvelle proceeded to reorganize the Netherlands. | |William of Nassau (Prince of Orange) & Count of Egmont organized the Dutch | | |nobility in opposition, which had Granvelle removed from office | | | | | |The Compromise- | | |Margaret (Regent of Spain) spurned the protesters. Leads them to call for aid and | | |rebel against Spain; however the nobility does not support the rebellion. | | |Duke of Alba-sent to the Netherlands to gain control back. | | |He had several thousand suspected heretics publicly executed. | | |He then taxed the people of Netherlands to pay for the suppressing of the revolt. | | | | |Pacification of Ghent- | | |November 4 1576: Spanish mercenaries ran amok in Antwerp killing 7000 people in | | |the streets known as the Spanish fury. | | | | | |Pacification of Ghent (November 8, 1575)- Catholic regions and Protestant regions | | |in the Netherlands unified to oppose Spain. | | | | | |Perpetual Edict- provided for removal of all Spanish troops from the Netherlands | | |within 20 days. | | | | | | | |Netherlands Independence- | | |King of Spain Phillip II declared William of Orange an outlaw. | | |December 1580 William of Orange publicly denounced Phillip as a Heathen and tyrant| | |and should not be obeyed. | | |Known as The Apology. | | |Peace of Westphalia in 1648 – Netherlands is fully recognized | | | | | | | | | | | | | | | | | | | |England and Spain 1553-1603 | | |[pic] | | | | | |Jane Grey (granddaughter to Henry), 3rd Queen | | | | | | | | | | | |Mary I – reign lasted 5 years | | |Edward VI died. | | |Lady Jane Grey tried to ascend to throne. | | |Mary Tudor was the rightful heir. Grey-9 days Queen then beheaded. | | |Mary marries Prince Philip II of Spain. Mary | | |Had Parliament repeal the Protestant laws.

Mary | | |Decreed all of England Catholic, burned Protestant leaders at the stake. | | |Dies 1558 | | | | |The Compromise: A solemn pledge to resist the |Elizabeth I – takes throne 1558 | |decrees of Trent and the Inquisition. |Daughter of Henry and half sister to Mary. | | |Advisor William Cecil. | |Passed laws for religious toleration | | | | | |Act of Supremacy 1559- Repealing all anti-Protestant legislation of Mary Tudor. | | | | | |Phillip II seeks marriage with Elizabeth. | | |Mary Stuart, Queen of Scots seeks England throne. | | |Supporters claim Elizabeth is illegitimate. | | |Queen of Scots is the granddaughter to Henry the VIII’s sister Margaret. | |Raised French and Catholic. | | | | | |Deterioration of Relation with Spain | | |Spanish Duke of Alba (1547)- marched troops into the Netherlands; England sees | | |this as a threat due its close proximity to England. | | |Elizabeth allows pirating of Spanish vessels. | | | | |Mary Queen of Scots | | |Elizabeth executes Mary Queen of Scotts (second cousin) for plotting against the | | |crown. | | |Mary’s husband is killed by her lover, who is acquitted, and then marries Mary. | | |This causes outrage from her people. | | |Mary surrenders her throne to her one year old son James VI, who later becomes | | |Elizabeth’s heir to throne. | |The pope authorize Spain to invade England for the killing of Mary who was their | | |hope to turn England Catholic | | | | | |The Armanda | | |May 30 1587 -130 ships with 25,000 sailors sent to invade England. | | |Spain wanted the ships to dock in France before continuing the invasion. | | |France prohibits the ships from leaving and a fog roles in around the channel. | | |England has advantage and wins. | | | | |Thirty Year War | | |Preconditions for War | | |Germany = Holly Rome | | |Germany consists of 360 autonomous entities. | | |Each had its own tolls, taxes, coins and religion, making it difficult to travel | | |and do business | | | | |Four Periods of War- | | |Bohemian (1618-1625) Swedish (1630-1635) | | |Danish (1625-1629) Swedish-French (1635-1648) | | | | | |Bohemian Period- | | |Ferdinand ascends to the throne and wants to return the region to Catholicism. | | |He revokes the religious freedoms of the Bohemian Protestants. | | | | | |Defenestration of Prague- Protestant nobility in Prague throw Ferdinand III’s | | |regents out of window in reaction to the revoke of religious freedoms. They did | | |not die, landed on manure which cushioned their fall. | | | | |Ferdinand was managed to subdue the Protestants and re-Catholicize Bohemian | | | | | |Danish Period- (1625-1629) | | |Lutheran King Christian IV of Demark picks up Protestant banner-invades Germany | | |and loses. | | |Ferdinand attacks Demark and breaks Protestant resistance. | | |Causes fear among all Protestants. | | | | | |Edict of Restitution in 1629- Calvinism is illegal and orders the return of all | | |church lands acquired by the Lutherans. | | | | | | | |The Swedish Periods (1630-1635) | | |Gustavus Adolphus king of Sweden | | |Was a unified Lutheran nation, bankrolled by France, an wished to keep the | | |Habsburg armies tied down in Germany. | | |Adolphus won several battles due to a lighter army and better weapons. | | |Adolphus is killed on the battlefield. | | | | |Peace of Prague in 1635- majority of the Protestants states reached a compromise | | |with Ferdinand, barring the Swedes | | | | | |Peace of Prague plunged them into the fourth war. | | | | | |The Swedish-French Period (1635-1648) | | |The French join the war in 1635. | | |Dragged on for 13 years with Spanish, French and Swedish soldiers looting Germany. | | | | |About 1/3 of the German population died as a direct result of the war. | | | | | |Treaty of Westphalia- | | | | | |The Treaty of Westphalia 1648 -brought all hostilities within the Holy Roman | | |Empire to an end.

Ended Edict of Restitution and reasserted the Peace of Augsburg,| | |which allows each ruler to determine its religion. | | | | | |German princes become supreme over their principalities. | Summary: From Martin Luther’s death in 1546 until the middle of the seventeenth century, European life was dominated by religiously and politically inspired violence. France descended into nearly 50 years of civil war before emerging with a united monarchy under the terms of the Edict of Nantes in 1598. Spain escaped civil strife and remained firmly Catholic.

Spain’s American empire provided immense wealth, but Spain failed to subdue Protestant nationalism in the Netherlands and suffered defeat of its Armada naval fleet at the hands of the English. As a result, Spain’s position in international affairs declined. Unlike the French, the English managed to avoid civil war under the inspired leadership of Queen Elizabeth I. In Germany, the original center of the Reformation, Lutherans and Catholics had come to tolerate each other. But in the early seventeenth century the temporary compromises collapsed. The resulting free-for-all, known as the Thirty Years’ War (1618–1648), consumed much of Europe’s energies until it was resolved in the Peace of Westphalia. ———————– Elizabeth I 4th, Queen Mary I 2nd, Queen Edward VI 1st, King Henry VIII King

Index Executive summery…………………………………………………………………………………………. …1 Introduction………………………………………………………………………………………………………. 2 Case analysis Match My Doll Clothing…………………………….. ………………………. ………. …. …………. 2 Design Your Own Doll……………………………………………………………………………….. 3 Comparison………. ………………………………………………………………………….. …. ………4 Additional Questions…………………. ………………………………………………………………………5 Recommendations…………………………………………………………………………………………….. 5 Appendix Appendix 1: calculation formulas, definitions and assumptions………………. 6 Appendix 2: Exhibit 1 & 2…………………………………………………………………………. 9

Appendix 3: The NPV Profile…………………………………………………………………… 11 Executive Summary The production division at New Heritage Doll Company is considering between two business proposals to recommend at the firm’s upcoming capital budget meeting in October. In order to prioritize between the two projects, we needed to analyze both companies, quantitatively and qualitatively, to determine which proposal better suits NHDC’s goals. Using a qualitative analysis, we analyzed both Match My Doll clothing line and compared it to the Design Your Own Doll proposal.

We found, after comparing the strengths and weaknesses of both proposals, that MMDC’s business case is more compelling. We then analyzed the financial aspect of both projects using the financial information given in the exhibit. In order to complete this analysis we began with a profitability analysis. First we computed the NPV, IRR and the profitability index in order to determine which of the projects would be more profitable. We found that although DYOD’s NPV was slightly higher, MMDC’s ratio’s seemed more compelling. We then moved on to a risk analysis, in order to compare the riskiness of the two projects.

We found that not only is MMDC’s risk lower than that of DYOD, but its payback period was approximately 30% lower as well. Based on these analyses, we recommend that the company should choose the Match My Doll Clothing line expansion proposal. Introduction In this case study, two business proposals from the Production division of the New Heritage Doll Company (NHDC) are being considered for submission at the capital budgeting committee meeting which makes decisions at the corporate level for all large spending proposals.

The first proposal is to extend the company’s Match My Doll Clothing line, and the second is to develop a new Design Your Own Doll product. Emily Harris, vice president of NHDC’s production division, is weighing the two proposals. Due to constraints on financial and managerial resources, it is possible that the committee will decline to approve both projects as other divisions of the company such as licensing and retail are also presenting projects that may prove more attractive to the committee. Harris has to be prepared to recommend only one of the projects.

In order to evaluate which of the projects Emily should promote, we look at the criteria of the committee. They will examine the proposed project for consistency with the company’s overall business strategy and they will see if the project balances the needs and priorities of each division against the practical, financial, and organizational constraints of the company. The committee will evaluate whether the proposed project will strengthen the entire company, not just the particular division. We would try to evaluate which of the proposals based on the projects’ qualitative and quantitative analysis.

We have used in our analysis both the figures that were supplied by the line managers, and further information that seem relevant from online researches we had conducted. Match My Doll Clothing This investment proposal is the expansion of the Match My Doll Clothing line (MMDC), an existing clothing line of matching doll and child clothing and accessories. The original line was a success, due to the strong identification that girls feel with their NH dolls. Due to the growing popularity of the line the line’s manager believe that the timing is right for expansion.

The original line selected several items of New Heritage dolls’ fashions and produced identical items in girl’s sizes. However, the number of items was limited. The proposed expansion would create an “All Seasons Collection” of apparel and gear covering all four season of the year. It would expand the number of matching doll and girl clothing items available One of the benefits of expanding the MMDC’ line is that the line has already demonstrated the commercial viability of the matching doll and child clothing model. The concept has a proven track record and now the company has only to further build on this successful model.

Furthermore, the recent positive publicity engendered by the celebrity sightings, will create an even greater demand for the product, and will allow for the maintenance of premium pricing. We believe that the expanded line will be at least as profitable as the existing line. Another strength this project possesses is the project’s moderate risk , which is almost identical to that of MMDC’s existing business line. One of our concerns regarding the expansion of MMDC’s clothing line is the company’s inexperience within the clothing industry. NHDC will have to compete outside its current niche of dolls and accessories.

The fickle nature of children’s fashion trends requires that the management keep up with current market trends, in order to maintain its premium pricing. Another concern we think is important to address is the expected lifetime of the project. Based on the risk that the company would not be able to stay up to date with the current trends and fashion we think that the life p of the projected CF may be somewhat optimistic, and might not reflect correctly the characters of this project. However, we do believe that for the sake of comparison this projection should be kept.

Another concern that arises from the unexpectedness of children’s fashion trends is that the company may be faced with a very limited time frame in which it can make profitable investment decisions. One of the opportunities that arise with the current proposal is the reduction in the seasonality of the company’s sales and earnings. The new line created an additional benefit of supplying clothing all year round, which in turn could provide the firm with a more stable revenue stream. By taking advantage of the “off peak discount” offered by some suppliers and anufacturers, the line manager expected to reduce the company’s seasonality which would create a more stable revenue stream for the firm. A threat which attributed to this proposal is its reliance on supposed discounts offered by suppliers and manufacturers. The failure of obtaining these discounts can cause an increase in costs, resulting in lower profitability. Capital expenditures in 2010 are predicted to be high since the project is during its first year of operation . In the following year they are still relatively high, but this can still be explained by it still being the beginning years of operation. 012-2013 have the lowest Capital expenditure of all projected years; this could be explained by the high growth in revenues . It is important to note that these years are considered “day one”- since the product is new in the market, the market should embrace the product first and the depreciation is still on the lower numbers. From 2014 and onward, we see an increase in the firm’s Capital expenditure coupled with a constant growth . This might be due to maintaining the operation scope and compensating for the growth in depreciation (During year 2015 and onward). Design Your Own Doll

The Design Your Own Doll (DYOD) project sets out to make dolls products more personal to customers, by creating dolls that can be designed to look like their owners. The new project was targeted to both new customers and loyal customers, who may already own a number of dolls, but are looking to add a unique addition to their collection. The strategy behind the project is that by becoming an active part of the creation of the dolls the customers will become more loyal customers. The whole creation and participation will take part in a new section of New Heritage’s website.

We believes that because of all the new features, the experience and the uniqueness in this product, the customers would be willing to pay premium price. The fact that this project is web-based also enlarge the accessibility for customers, and by that enabling people that have hard time to approach an actual store to still purchase the company’s product. On the other hand, there is a risk that the premium price, as discussed earlier, might narrow the audience since it approach higher socio economic level people. Due to the projects’ unique the initial investing costs are higher, but so does the expected return .

As a product which is “one of a kind” (“OOAK”), the production costs are going to be higher than usual (in particular fixed costs on a per unit basis, which come from low production runs and volume ), meaning that the payback period would be high. In addition, there are untested elements that need to be put into the manufacturing process, a risk that might cause future unexpected expenses. This project is considered to be a high risk project, due to the fact that it is completely new and contains (as mentioned) high costs of production.

The initial equipment costs high (comparing to MMDC and) the time for it to be ready for production is going to be two years instead of 1 year in the MMDC proposal. Moreover, there is more equipment that shall be installed by the end of 2014 and that’s why in the forecasts of DYOD (exhibit 2) there is a very high spike in the capital expenditures line. The good thing in purchasing this kind equipment is the option to pay custom equipment quarterly, so New Heritage can decide to pay everything in front, so it can get a sustainable discount.

The projections for this project are based upon a near-flawless operation. Since this project was not tested and there is no experience with it, this may add to the riskiness of the project. New Heritage’s website should be developed with the new software, which will take a year to write and test before starting with the sales. This is an explanation for the high initial R&D costs . Financial Comparison Net Present Value In order to evaluate both of the projects, we used the projections for MMDC and DYOD and calculated MMDC’s NPV to be slightly lower than that of DYOD.

Our projections show that MMDC’s NPV is $7,150,070 , while DYOD’s is $7,298,100 . Due to the relatively small difference between the NPV’s we found, we believe that we should consider putting more emphasis on alternative factors when coming to a final decision. IRR Although we observed rather similar NPV’s, the two projects’ IRR are very different. Despite the slightly lower NPV, MMDC has an IRR of approximately 24%, compared to the 18% IRR of DYOD. This substantial difference we’ve found can be explained by the significantly lower initial spending on capital by MMDC . Profitability index

Using the Profitability index (PI) allows us to quantify the amount of value each project makes for every dollar invested. We calculated the Profitability ratios for both projects and found MMDC PI to be 2. 367, compared to 1. 17 of DYOD. After analyzing these results, it would seem that MMDC would generate a higher return on their investment. Risk analysis For MMDC, we took on the recommended moderate risk rate of 8. 4%. Based it is an already existing line that has no need for consumer acceptance, in addition to its proven ability to maintain premium prices, we decided that it was a logical assumption.

For the DYOD, we assumed a high risk rate of 9%. After considering multiple factors, such as DYOD’s lengthy payback period , relatively high fixed costs and the use of new untested elements in the manufacturing process, a high discount rate is appropriate. Given these assumptions, we can see that MMDC is less risky than DYOD. Furthermore, we analyzed the NPV Profile and found that MMDC’s NPV is less sensitive to increases in the discount rate than DYOD. Another relevant figure we examined is the projects’ payback periods, which calculates the amount of time until a project’s initial investment is returned.

According to our calculations, MMDC’s payback period is lower than that of DYOD . While MMDC will recuperate their initial investment in slightly over 7 years, it will take DYOD over 10 years to return their initial investment. Since the Payback period we calculated doesn’t take into account the time value of money, we calculated the Discounted Payback Period, and confirmed that here too, MMDC is faster at recuperating its initial investment . Profit Margin The average profit margin for the MMDC is 14. 9%, while for the DYOD it is 12. 55%. This suggests that MMDC is a more profitable company, and may have better control over its costs than DYOD. Acid Test The result for the MMDC is 2. 43, while the result for DYOD is 2. 72. The significant of this is relating to the “worst case scenario” – what if the project would fail and the firm will need to get rid of it. Internal growth rate Even though we don’t know how much of New Heritage’s NI goes to dividends, we know that in both of the cases it will be the same and it would be

1. Introduction

1. 1 New Heritage Doll Company: Capital budget

In September 2010 Emily Harris was considering two proposals for investment for the company .

As always, there are certain financial constraints that force the choice of a project and discard the other. The evaluation process for each project is hard, there are many details to consider, other data are not known with certainty and the only thing that can be done is an estimate as closely as possible. Our role here is to help interpret information, work with it, develop surveys and help clarify the dilemma so that the end result is the choice of the most suitable investment project for New Heritage Doll Company.

2. The Doll Industry

New Heritage has created a durable franchise for its line of heirloom dolls. New Heritage has created a durable franchise for its line of heirloom dolls. Revenue in the toy industry in the United States was 42 billion in 2008 and is expected to grow 4. 6% per year to reach 52. 5 billion in 2013 (graph 1). The market is divided into two broad segments: video games (48%) and traditional toys and games (52%) (Figure 2). The second segment is further divided into preschool toys (14. 5%), wrist (14. 1%), sports toys (12. 3%), and other toys and games (59. 1%) (Figure 3).

3. New Heritage Company

By the year 2009, New Heritage had grown to 450 employees and generated approximately $245 million of revenue and $27 million of operating profit. By the year 2009, New Heritage had grown to 450 employees and generated approximately $245 million of revenue and $27 million of operating profit.

3. 1 New Heritage Dolls

The Company was founded in 1985 by Ingrid Beckwith, a retired psychologist specializing in child development and the grandmother of two young girls.

It sought to extend the New Heritage brand and capitalize on high levels of customer loyalty by selectively licensing the company’s doll characters and themes to a variety of media that reached the firm’s target demographic of a toddler to pre-teen girls.

New Heritage Dolls Production Division

4. Capital Budgeting

Capital budgeting is the planning process used to determine whether an organization’s long term investments such as new machinery, replacement machinery, new plants, new products, and research development projects are worth pursuing. It is the budget for major capital, or investment, expenditures.

4. 2 Ranked Projects

The real value of capital budgeting is to rank projects.

Most organizations have many projects that could potentially be financially rewarding. Once it has been determined that a particular project has exceeded its hurdle, then it should be ranked against peer projects. The highest-ranking projects should be implemented until the budgeted capital has been expended.

4. 3 Need for Capital Budgeting

1. As a large sum of money is involved which influences the profitability of the firm making capital budgeting an important task.
2. Long term investment once made cannot be reversed without significant loss of invested capital. The investment becomes sunk and mistakes, rather than being readily rectified, must often be born until the firm can be withdrawn through depreciation charges or liquidation. It influences the whole conduct of the business for the years to come.
3. The investment decision is the base on which the profit will be earned and probably measured through the return on the capital. A proper mix of capital investment is quite important to ensure an adequate rate of return on investment, calling for the need for capital budgeting.
4. The implication of long term investment decisions are more extensive than those of short-run decisions because of time factor involved, capital budgeting decisions are subject to the higher degree of risk and uncertainty than short run decision.

4. 4 Capital Budgeting at New Heritage Doll Company

Currently, the capital budgeting process in New Heritage is conducted by a panel consisting of the CEO, the CFO, the COO, the controller, and the division of presidents. Historically, capital budgeting was about 15% of Ebitda. Three formal methods are used in New Heritage capital budgeting:

1. Net present value (NPV).
2. Payback period.
3. Internal rate of return (IRR).

These methods use the incremental cash flows from each potential investment or project. Under accrual accounting, revenues and expenses are reported based on accounting principles. This means that revenues are reported when they are earned, and expenses are matched to the periods of the revenue. In other words, revenues and expenses are not reported on the income statement when the money is received or spent. Further, the revenue and expense amounts are not adjusted for the time value of money because of the monetary unit assumption.

Capital budgeting decisions should be based on cash flows that are adjusted for the time value of money. The time value of money recognizes that a dollar received or spent in the future is less valuable than a dollar received or spent in the present. Calculations such as the internal rate of return or net present value include adjustments for the time value of money. In these calculations present value factors, financial calculators, or computer software are used to discount the cash flows to their present values.

4. 5 Incremental Cash Flows

They are additional operating cash flows that an organization receives from taking on a new project. Positive incremental cash flow means that the company’s cash flow will increase with the acceptance of the project. There are several components that must be identified when looking at incremental cash flows: the initial outlay, cash flows from taking on the project, terminal cost or value, and the scale and timing of the project. Positive incremental cash flow is a good indication that an organization should spend some time and money investing in the project.

4. 6 Free Cash Flows

A measure of financial performance calculated as operating cash flow minus capital expenditures. Free cash flow (FCF) represents the cash that a company is able to generate after laying out the money required to maintain or expand its asset base. Free cash flow is important because it allows a company to pursue opportunities that enhance shareholder value. Without cash, it’s tough to develop new products, make acquisitions, pay dividends, and reduce debt. FCF is calculated as:

EBIT (1- Tax rate)| | | + Depreciation ; Amortization| – Change in Net Working Capital| – Capital Expenditures|  | Free Cash Flow| | | Where: Current assets| – Current liabilities| Net working capital| Where: Cash| | | + Accounts receivable| + Inventories| | Current assets| |

It is important to note that negative free cash flow is not bad in itself. If free cash flow is negative, it could be a sign that a company is making large investments. If these investments earn a high return, the strategy has the potential to pay off in the long run.

4. 7 Sunk Cost

It is a cost that has already been incurred and thus cannot be recovered. A sunk cost differs from other, future costs that a business may face, such as inventory costs or R&D expenses, because it has already happened. Sunk costs are independent of any event that may occur in the future.

4. 8 Opportunity Cost

It is the best return that could be earned on assets the firm already owns if those assets are not used for the new project.

Now suppose the initial cost shown in each project was based on the assumption that the project would save money by using some equipment the company now owns and that equipment would be sold for a certain amount of money, after taxes, if the project is rejected. The amount is an opportunity cost, and it should be reflected in our calculations. We would add that amount to the project’s cost. The result would be an NPV- Asset value.

4. 9 Terminal Value

The terminal value of an asset is its anticipated value on a certain date in the future.

It is used in multi-stage discounted cash flow analysis and the study of cash flow projections for a several-year period. The perpetuity growth model is used to identify ongoing free cash flows. The exit or terminal multiple approaches assumes the asset will be sold at the end of a specified time period, helping investors evaluate risk/reward scenarios for the asset. An asset’s terminal value is a projection that is useful in budget planning, and also in evaluating the potential gain of an investment over a specified time period.

5. Investment Proposals

5. 1 Match My Doll Clothing (MMDC) Line Expansion

This line consisted of a set to match clothes for girls and dolls and some accessories. Due to the good publicity, it is thought to be a good time to expand this line. It is believed that this expansion will be profitable because the current line is very popular and allows charging premium prices. This project involves the expenditure of large sums for research and development, market research and marketing.

Table 1

The R&D and marketing expenditures would be deductible for tax purposes ta New Heritage’s 40% corporate tax rate.

5. 2 Design Your Own Doll (DYOD)

The research suggested that many loyal customers would purchase yet another doll if they could customize the doll’s features to create a “one-of-a-kind” addition to a girl’s or family’s existing collection of dolls. However, even a limited degree of customization increased manufacturing complexity and expense.

Table 2

As with Match My Doll Clothing, the required R;D and marketing costs would be tax deductible. To complete development work, it is planned to use some of the company’s existing IT staff. The majority of the work would take place during calendar 2011. The number of people is shown in the table below.

Table 3

If this project stumbled for some reason, New Heritage risked damaging relationship with its best customers.

6. Projects Analysis

For each project, three metrics are going to be calculated:

1. Net Present Value (NPV).
2. Payback period.
3. Internal Rate of Return (IRR).

6. 1 Net Present Value (NPV)

The difference between the present value of cash inflows and the present value of cash outflows. NPV is used in capital budgeting to analyze the profitability of an investment or project.

NPV compares the value of a dollar today to the value of that same dollar in the future, taking inflation and returns into account. If the NPV of a prospective project is positive, it should be accepted. However, if NPV is negative, the project should probably be rejected because cash flows will also be negative. For example, if a retail clothing business wants to purchase an existing store, it would first estimate the future cash flows that store would generate, and then discount those cash flows into one lump-sum present value amount, say $565,000.

If the owner of the store was willing to sell his business for less than $565,000, the purchasing company would likely accept the offer as it presents a positive NPV investment. Conversely, if the owner would not sell for less than $565,000, the purchaser would not buy the store, as the investment would present a negative NPV at that time and would, therefore, reduce the overall value of the clothing company.

6. 2 Payback Period

The length of time required to recover the cost of an investment. The payback period of a given investment or project is an important determinant of whether to undertake the position or project, as longer payback periods are typically not desirable for investment positions.

6. 3 Internal Rate of Return (IRR)

The discount rate often used in capital budgeting that makes the net present value of all cash flows from a particular project equal to zero. Generally speaking, the higher a project’s internal rate of return, the more desirable it is to undertake the project. As such, IRR can be used to rank several prospective projects a firm is considering.

Assuming all other factors are equal among the various projects, the project with the highest IRR would probably be considered the best and undertaken first.

6. 4 How to Work With Working Capital Assumptions

To know the value of current assets (cash, accounts receivable, and inventories) and accounts payable a set of assumptions are given, with which we must work:

1. Cash Minimum: Cash Balance as % of Sales. It is easy to know the amount of cash together by applying the percentage to sales revenue.
2. Days Sales Outstanding: In this case, the data is provided are the days. Using the formula of Days Sales Outstanding, we can solve for the value of accounts receivable. DSO = Accounts receivableSales365
3. Days Payable Outstanding: In this case, the data is provided are the days. Using the formula of Days Payable Outstanding, we can solve for the value of accounts payable. DPO = Accounts payableCost of sales365

6. 5 Metrics Results for Both Projects Clarifications:

For the terminal value, it has been employed the following formula:

Terminal value=FCF10 (1+G)(R-G) Where:

• FCF10 is the free cash flow of year 10 (2020).
• G is the growth rate. In this case, a growth rate of 2% has been used, for New Heritage prefers more conservative forecasting.
• R is the discount rate used. Three different discount rates have been used depending on the level of risk is low, medium, or high.

6. 6 Metrics for Match My Doll Clothing Line Expansion

These are the results obtained from free cash flows provided by Match My Doll Clothing Line Expansion:

Table 4

6. 7  Metrics for Design Your Own Doll

These are the results obtained from free cash flows provided by the Design Your Own Doll project:

Table 5

6. 8 Other Aspects to Consider in Capital Budgeting Flexibility

Capital budgeting techniques used by large businesses often run into flexibility problems. Many companies use a standard capital budgeting form where an analyst plugs numbers into specific categories to come up with net present value, cash flows, ROI and other basic results. However, not all costs and revenues from a project fit into such a fill-in sheet and can be difficult to classify. The best type of capital budgeting is the kind that can be customized for each project. Accuracy Capital budgeting depends largely on the quality of information that is used for the budget analysis.

This opens the process up to flaws if the incoming data is incorrect. For example, if someone underestimates a key cost, capital budgeting will show the project as less expensive than it will be. This is a common risk, and managers should always consider that the financial information behind the capital budgeting process is usually not 100 percent accurate. Benefit Type There are two general benefits associated with capital budgeting and projects. Hard benefits directly affect the project and loss statement and have easy, tangible results.

There are also soft benefits, which are quantifiable but do not easily affect profit or loss directly. A third group, intangibles, is related to intellectual, emotional, and environmental gains. Companies tend to only concentrate on hard benefits and forget that projects can produce other advantages as well. Emotions and Assumptions Capital budgeting is ultimately a tool that can help managers make decisions, not a process for making the decision itself. Managers are susceptible to the energy behind a project and may support a project because it appears exciting or the end results are highly noticeable.

Sometimes it is better to go with more boring, stable results that will keep the company strong than always moving for flashy projects.

7. Election of Project

In the case of the Match My Doll Clothing, given the current economic situation and the inherent characteristics thereof, it seems most reasonable to choose the medium risk discount rate (8. 4%). At this rate, the following results are reached:

Table 6

In the case of the Design Your Own Doll, as it has a fairly long payback, it has new unknown processes for New Heritage and because if the project fails the customer relationships will be damaged, it seems that it is more appropriate to assign the high-risk discount rate (9%). At this rate, the following results are reached:

Table 7

Match My Doll Clothing Line Expansion and Design Your Own Doll are Mutually Exclusive Projects which means that is a set of projects from which at most one will be accepted.

For example, a set of projects which are to accomplish the same task. Thus, when choosing between “Mutually Exclusive Projects” more than one project may satisfy the Capital Budgeting criterion. However, only one, i. e. , the best project can be accepted. Of these three, Net Present Value, Payback Period, and Internal Rate of Return, only the Net Present Value and Internal Rate of Return decision methods consider all of the project’s cash flows and the Time Value of Money.

And, only the Net Present Value decision method will always lead to the correct decision when choosing among Mutually Exclusive Projects. This is because the Net Present Value and Internal Rate of Return decision methods differ with respect to their Reinvestment Rate Assumptions. The Net Present Value decision method implicitly assumes that the project’s cash flows can be reinvested at the firm’s Cost of Capital, whereas, the Internal Rate of Return decision method implicitly assumes that the cash flows can be reinvested at the projects IRR.

Since each project is likely to have a different IRR, the assumption underlying the Net Present Value decision rule is more reasonable. Nevertheless, the NPV method has some disadvantages. One major disadvantage is that the method requires a detailed prediction of the project’s future cash flows. It is not that difficult if the project life is four years. But generally, the life of a project is much longer. For example, computing the NPV for one of these projects would require forecasting cash flows for the entire life of the project.

This period could be 20 years, 30 years but we don’t know exactly how many and forecasting revenues for so many years is extremely difficult. A second disadvantage of the NPV method is that it assumes that the discount rate will remain the same over the life of the project. In many instances, the cost of capital, and therefore the discount rate, changes as firms refinance debt.

7. 1 Projects NPV Profiles

The figure below presents the net present value profile (A graph showing the relationship between a project’s NPV and the firm’s cost of capital)

For both Match My Doll Line Expansion and Design Your Own Doll projects. To make the profile, we find the project’s NPV at a number of different discount rates and then plot those values to create a graph. We can see that at a zero cost of capital, the NPV is simply the net total of the undiscounted cash flow. This value is plotted as the vertical axis intercept. It is also seen that the IRR is the discount rate that causes the NPV to equal zero, so the discount rate at which the profile line crosses the horizontal axis is the project’s IRR.

When we connect the data points, we have the NPV profile.

IRRMMDC IRRMMDC NPV ($) NPV ($) Cost of capital (%) Cost of capital (%) IRRDYOD IRRDYOD DYOD DYOD Crossover rate; conflict if r is to the left, no conflict if r is to the right Crossover rate; conflict if r is to the left, no conflict if r is to the right At r = 10% NPVMMD > NPVDYOD but IRRDYOD > IRRMMD, so there is a conflict At r = 10% NPVMMD > NPVDYOD but IRRDYOD > IRRMMD, so there is a conflict MMDC MMDC The IRRs are fixed, and DYOD has the higher IRR regardless of the cost of capital.

• However, the NPVs vary depending on the actual cost of capital.
• The two NPV profile lines cross at the crossover rate that is the cost of capital at which the NPV profiles of two projects cross and, thus, at which the projects’ NPVs are equal.
• MMDC project has a higher NPV if the cost of capital is less than the crossover rate, but DYOD has the higher NPV if the cost of capital is greater than that rate.

Besides, MMD has the steeper slope, indicating that a given increase in the cost of capital causes a larger decline in NPVMMDC than in NPVDYOD Finally, although MMDC is more sensitive to the variation of the discount rate, we think the most reasonable for New Heritage, as to these two investment proposals, is to choose Match My Doll Clothing Line Expansion for the following three reasons:

• NPV is greater ($5,938. 36) than that of Design Your Own Doll ($5,483. 73).
• The payback period is shorter (7. 2 years) than that of Design Your Doll (9. 06 years). Years Years
• The IRR is greater (22. 12%) than the Design Your Own Doll (16. 09%).