Capital Budgeting
Introduction
Capital Budgeting is the process of making decisions on whether or not to accept or reject a project (Ross, Westerfield, & Jeffrey, 2005, p.144). Silicon Arts, Inc. is a four year company that manufactures digital imaging Integrated Circuits (ICs) that are used in a variety of products, such as cameras and medical and scientific instrumentation. Under the leadership of Chairman Hai Eichner, the company has two main objectives: increase market share and keep pace with technology. Currently SAI has two mutually exclusive capital investment projects and the decision must be made to either expand existing digital marketing share or enter the Wireless Communication market. In order to make an informed decision on which project to undertake, SAI will have to evaluate both internal and external investment strategies, as well as the risks involved with each investment decision.
External Investment Strategies
External investment strategies involve the concepts of acquisitions and mergers. The acquisition of one firm by another is a capital budgeting decision. A firm should be acquired if it generates positive Net Present Value to the acquiring firm (Ross, Westerfield, & Jeffrey, 2005, p.796).
While analyzing capital expenditure decisions in the Wireless Communications proposal, the choice must be made whether or not to utilize the technology developed by the in-house R&D department or to buy-out DigIc, which is owned by Gus Longman. DigIC has developed a state-of –the –art IC for Wireless Communications and the cost of the technology and production facility is $28 million. After the initial decision was made to proceed with the in-house technology, negotiations for a more flexible payment agreement led to the decision to proceed with the buy-out of DigIC. In addition, the analysis reveals that the NPV and Internal Rate of Return (IRR) were both higher with selecting to buy out Gus Longman and DigIC.
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