Guillermo’s Furniture Store Scenario

We can find three alternatives available to the Guillermo’s Furniture Store. The three alternatives are keeping itself in the current position, make it high-tech and become a broker. So the projects that can be taken by Guillermo’s furniture store are dividend into Current Project, High-Tech Project and the Broker Project.

As Guillermo’s furniture store have to choose the best option among these projects that can give a competitive advantage to it. As we know that the managers use capital budgeting techniques to find out the best project among the bunch of projects that are mutually exclusive. To find out the best option there are various types of capital budgeting techniques. These capital budgeting techniques are:

  i) Simple Payback, and

  ii) Discounted Payback

iii) Net Present Value (NPV)

  iv) Internal Rate Of Return (IRR)

  i) The simple payback period:

  We can define the simple payback period as the expected number of years required to recover the original investment by Guillermo’s Furniture Store i.e. if the Guillermo’s furniture store has invested $300 millions in its project, then within what time period the company is able to recover its invested amount. Payback period is the first formal method used to evaluate capital budgeting projects. Here is the payback period for Guillermo’s Furniture Store. The cumulative cash flow of Guillermo’s Furniture store at t = 0 is just the initial cost of -$300,000. At Year 1 the cumulative cash flow is the previous cumulative of $300,000 plus the Year 1 cash flow of $500: -$300,000 + $42,573=-$257,427. Similarly, the cumulative for Year 2 is the previous cumulative of -$257,427 plus the Year 2 inflow of $42,573, resulting in –$214,854. We see that by the end of Year 7 the cumulative inflows have more than recovered the initial outflow. Thus, the payback occurred during the third year. If the $40,584 of inflows comes in evenly during Year 3, then the...