A History of the Indian River Citrus Company Essay examples

2327 Words Sep 27th, 2014 10 Pages
Indian River Citrus Company (A)

Indian River Citrus Company is a leading producer of fresh, frozen, and made-from-concentrate citrus drinks. The firm was founded in 1929 by Matthew Stewart, a navy veteran who settled in Miami after World War I and began selling real estate. Since real estate sales were booming, Stewart’s fortunes soared. His investment philosophy, which he proudly displayed behind his desk, was “Buy land. They aren’t making any more of it.” He practiced what he preached, but instead of investing in residential property, which he knew was grossly overvalued, he invested most of his sales commissions in citrus land located in Florida’s Indian River County. Originally, Stewart sold his oranges, lemons, and grapefruit to
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Lili then talked to both the sales and production managers and concluded that the new project would probably lower the firm’s regular orange juice sales by $40,000 per year, but, at the same time it would also reduce regular orange juice production costs by $20,000, per year, all on a pre-tax basis. Thus, the net cannibalization effect would be -$40,000 + $20,000 = -$20,000. Indian River’s federal-plus-state tax rate is 40 percent, and its overall cost of capital is 10 percent, calculated as follows:

WACC = wdk d(1-T) + wsks = 0.5(10%)(0.6) + 0.5(14%) = 10.0%

Lili and Brent were asked to analyze this project, along with two other projects, and then to present their findings in a “tutorial” manner to Indian River’s executive committee. The financial vice president, Lili and Brent’s supervisor, wants them to educate some of the other executives, especially the marketing and sales managers, in the theory of capital budgeting so that these executives will have a better understanding of capital budgeting decisions. Therefore, Lili and Brent have decided to ask and then answer a series of questions as set forth below. Specifics on the other two projects must be analyzed are provided in Questions 9 and 10.

Questions

1. Define the term “incremental cash flow.” Since the project will be financed in part by debt, should the cash flow

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