Dixon Case free essay sample

In order to calculate WACC, we need to first start with the beta of equity. We are given the beta of equity of 1.06 of Dixon as a firm in Exhibit 7. However, the beta given is not an appropriate measure of the systematic risk of the Collinsville Plant, because Dixon produces many other chemical products other than Sodium Chlorate. Therefore, in order to accurately capture the systematic risk of the plant which only produces Sodium Chlorate, we decided to calculate the beta of equity with comparable firms’ beta. Selection of Comparable Firms: We use â€Å"Brunswick Chemical† and â€Å"Southern Chemicals† as the comps to calculate the ÃŽ ²E ,because they are firms that only produce Sodium Chlorate that have similar capital structure as Dixon and are located in the Southeastern region. Static or Dynamic Debt: We determine that Dixon has dynamic debt to keep a relative constant D/E ratio from the data available in the financial statements of Dixon Corporation (Exhibit 7); therefore, the â€Å"tax term† is removed from our calculation of WACC. 3 million in 1980 and rise steadily to a stabilized level of near $12 million by 1984. A 15% power reduction will lead to savings of $1. 16 million in 1981 and annual savings of $1. 77 million from 1984 – 1989. A 20% power reduction will lead to savings of $1. 55 million in 1981 and annual savings of $2. 36 million from 1984 – 1989. In the calculation of incremental cash flow from these improvements, we also must factor in the initial outlay of $2. 25 million and the effects of depreciation. Since the improvement is depreciated over ten years, we have an annual increase to cash flow of $225,000, which is the annual depreciation expense. We have started effects on cash flow besides initial outlay in 1981 due to the installation taking place at the very end of 1980. No effects from the improvements will be realized in 1980. Overall, the installation of this laminate is a great project. Power savings will lead to an IRR of 16. 37% for the 15% power reduction case and 18. 14% for the 20% power reduction case. The NPV of the project became positive $ 97,000 for the 15% power reduction case and $ 1. 23 million for the 20% power reduction case when discounting at the WACC (Exhibit III). Attractiveness of Collinsville Proposal on economic grounds From an economic standpoint, the Collinsville proposal is not attractive due to a negative NPV. This acquisition will devalue of the firm by $ 1. 8 million and will provide a 12. 86% IRR which is below WACC for Collinsville plant. Namely, expected return of the project will not satisfy estimated risk. Thus, Dixon should not invent in the plant and is recommended to research other alternative projects if possible. In more competitive market, easier entrants can push any economic revenue down to â€Å"zero. † The sole reason why the firm decides to enter the competitive market is to take alive economic revenue. For this Collinsville plant, there is no economic driver for Dixon to enter the market with the acquisition. Attractiveness of Collinsville Proposal on Strategic grounds From a strategic standpoint, Collinsville appears to be a good investment for Dixon even though there is no beneficial motivation on economic ground. From the fact that Dixon Corporation had produced a number of chemicals for sales primarily to the paper and pulp industry, it can be said that it is a value-added business with the experience rather than venturous business. As such, the acquisition of the Collinsville plant would fit well with Dixon’s strategy, incorporating a new product in its business, thereby giving it a more comprehensive range of products and a new source of revenue. In addition, since Dixon and Collinsville share a number of major customers, economies of scale can be applied, allowing the corporation to save on selling costs by marketing sodium chlorate through Dixon’s existing sales group. Besides the potential synergies obtained from acquiring Collinsville, Dixon should consider the opportunity costs incurred if they do not purchase the plant. For one, if Dixon does not acquire the plant it is a reasonable assumption that one of their competitors will. Another consideration is the market share Dixon may gain from expanding its product line. Decision and Recommendations We believe that Dixon should not approve the acquisition of the Collinsville plant. This acquisition has a negative NPV and will devalue $1. 8 million of value to the firm. Even though there is benefit on strategic grounds, it is still hard to say firmly â€Å"But it. † We made some requirement to approve the acquisition. Only condition is that Dixon guarantees benefits on both strategic and economic grounds. We analyzed that there is strategic benefit to acquire the plant. In other hands, we were unable to find economic driver for Dixon. As we projected â€Å"Incremental Cash Flows Associated with Acquisition with Laminate Technology Investment†, we know a way that can overturn a negative NPV to a positive NPV. That is Ramp;D. Investment in new technology would be only way for Dixon to survive this competitive market and be leading company. There should be cash outflow for Ramp;D expenditure, but it would bring competitive advantage of cost-saving which results in considerable increasing of IRR and NPV. From the fact that Ramp;D is the most important factor on this project decision, we recommend the Dixon to invest/ acquire plant that is long-lived. And with less attractive appreciation schedule with longer term, purchase price would be amicably negotiable. We would recommend that Dixon would choose to invest in another project even it had never experienced. It should also satisfy benefits on both strategic and economic ground. Within the scope, if Dixon finds an alternative project meeting both benefits and has favorable funding required, it will be more valuable project than Collinsville plant. The dilemma for Dixon to make a decision on any potential project is the degree of importance on strategic and economic grounds. We understand that both are critical criteria for project judgment. But we insisted that importance on strategic ground is superior to that on economic ground. Simply, economic ground depends on whether NPV is greater than zero or not. It is like â€Å"True/False† question. Once, Dixon sees there is economic benefit, the strategic driver dominates. This strategic approach is long-term driven business implementation.