Answer Happy

Funding the Future at ABC Welding
Background As a new engineering employee
of ABC Welding, ABCW, a rm
that uses advanced technology welding
to weld pressure vessels you have
been ‘volunteered’ to participate in
a Resource Planning Group, RPG.
There were two reasons for
the invitation to join the RPG.
First, since you are new to
the rm you will likely bring a
fresh perspective to the RPG,
hence ABCW. Second, after reviewing
your college transcript it was noted
that you had taken an
engineering economics class as part
of your education. As a
consequence the RPG felt your input
would be valuable. Although ABCW has
been able to deliver to
industry it’s core product of
welded pressure vessels, ABCW is not
satised with the quality of the
nished product nor the amount
of time it takes to deliver
the vessels themselves. Management at
ABCW is of the opinion that
even though the current welding
processes are satisfactory, the overall
productivity of ABCW is lacking.
The option to maintain the
current processes in view of the
competiveness of the market is
increasingly risky. Therefore
the focus of the RGP is
to be on future welding technology. Specics
In particular, the agenda of
the RGP folks is to focus
on the robotic welding, RW, of
the pressure vessels. Even though RPG
uses RW, management feels that
the promise of this technology
has not fully materialized. Consequently,
the RPG has a twofold mission.
A section of the RPG is
to identify new RW technologies that
would increase the productivity of
ABCW’s current productivity. A second
section within the RPG is to
estimate funding for the new
future technology. This second
section of the RGP is to help
reconcile ABCW’s proposed funding
scheme with the funding requirements
of the new technology. Hence, the
RPG is divided into two
sections: scope and funding. Since
you have an engineering economics
background, you are part of the
RPG funding section. The funding
section is to assume that the
scope section RW proposals fulll the
functions required by ABCW. ABCW Management’s
Proposed Funding Scheme This is the
funding schedule proposed by ABCW
nancial managers: starting at end
of year 1, EOY 1, ABCW will
deposit $500K into an account
that will pay interest at
ABCW’s cost of capital, 8% APR.
However, in order to mitigate
the risk to ABCW the nance
department requires the 8% APR
to be compounded daily. In addition
to the initial EOY 1 annual
payment, ABCW will deposit an
annual amount at the end of
each year up to an including
EOY 5. The amount of
the deposit will decrease by
$100K each year from the EOY 1
deposit beginning EOY 2 until
EOY 5. In addition for EOY 6
to EOY 10 ABCW’s nancial folks
are of the opinion that no
extra funding should be deposited
into this fund because several
pieces of existing equipment will
be requiring scheduled overalls. RPG’s
Scope Section Funding Requirements The
scope section of the RPG
believes that the RW technology
required by ABCW will not be
available until EOY 11 or eleven
years from now. Based on that
timing, the scope section also
believes that ABCW will need to
have $700K on hand to fund
EOY 11. In subsequent years
from EOY 11 the amount of
annual funding required will decrease
by 10% each year until EOY
20. At EOY 20 or twenty years
from now, ABCW envisions the new
technology to be fully operational.
Thus the funding requirements for
scope section will be fully expended.
RPG’s Funding Section The funding
section of the RPG has the
task of bringing reality to
ABCW. The funding section is
tasked with reconciling the proposed
funding scheme from the ABCW’s
nancial folks (EOY 1 to EOY
5) with the estimated monetary
requirements proposed by the RPG’s
scope section folks. (EOY 11 to
EOY 20) Using the proposed ABCW
funding scheme along with the
RPG’s funding requirements, the
funding section must decide if the
funds generated by deposits in
EOY 1 to 5 provide sufficient
funds to cover the expense
requirements of the future technology
beginning EOY 11. The objective
of ABCW is to implement the new
technology without having to borrow
money.
*Case Focus Questions/Deliverables*
1) Does the proposed funding scheme
from ABCW’s nance department cover
the cash requirements to implement
the new technology on the
proposed timeline?
a) How much over or under funded is
the reconciliation?
2) If there is a shortage, how
much funding should be available
for EOY 11 to 20 to match
both the cash ow timing and the
funds available?
3) If there is a surplus, how
much more funding would be
available for EOY 11 to 20
to match the cash ow timing and
funds available?
4) Produce a cash ow diagram
showing the 20 year deposit and
fund availability cash ows as
stated in the problem statement.
5) Some of the members of
the RPG funding section wish to
take their mandate a bit
further. The funding section members
think that it might be easier
to secure funds if both the
ABCW scheme and the RPG funding
requirements in terms of what
it would cost as of today.
Therefore based on the assumption
that RPG funding requirement is
unchangeable (EOY 11 to 20), the
RPG funding section would like
to report the future funding
needs as an equivalent lump sum.
a Use the results of parts 1,
2 and 3 to be sure the
funds match.
Another funding section member
thinks that it might be easier
to secure funding if the monetary
requirements were presented in terms
of an equivalent annual expenditure.
She suggests that the current
funding plan proposed the ABCW
nance scheme is too complicated.
In fact she thinks that ABCW
could well afford depositing 150K per
year but over a 10 year
period.
6) Will this funding scheme work
financially? If not, what
adjustments could be made to
make it work? Are they realistic?
(Hint: remember the three necessary
factors to calculate the time
value of money. ABCW uses the
same compounding scheme at any
interest rate. All cash ows are
annual.)
a)Use the results of parts 1, 2
and 3 to be sure the
funds match.