Worldwide Paper Company

Case solution
Company Background
December 2013, Lucy Lang, the controller for the Blue Ridge Mill, was considering the addition
of a new on-site longwood woodyard. The addition would have two primary benefits:to eliminate
the need to purchase shortwood from an outsider supplier and create the opportunity to sell short
wood on the open market as a new market for Worldwide Paper Company (WPC). Now the new
woodyard would allow the Blue Ridge Mill not only to reduce its operating costs but also
increase its revenues. When the new woodyard began operating in 2015, it would significantly
reduce the operating costs of the mill. These operating savings would come mostly from
the difference in the cost of procuring short wood on-site versus buying it on the open market
and were estimated to be $2.0 million for2015 and $3.5 million per year thereafter. Lang also
planned on taking advantage of the excess production capacity afforded by the newfacility by
selling shortwood on the open market as soon as possible. For 2015, she expected to show
revenues of approximately $4 million, as the facility came on-line and began to break into the
new market. She expected shortwood sales to reach $10 million in 2016 and continue at the$10
million level through 2020. Lang estimated that the cost of goods sold (before including
depreciation expenses) would be 75% of revenues, and SG&A would be 5% of revenues. In
addition to the capital outlay of $18 million, the increased revenues would necessitate higher
levels of inventories and accounts receivables. The total working capital would average 10% of
annual revenues. Therefore the amount of working capital investment each year would equal10%
of incremental sales for the year. At the end of the life of the equipment, in 2020, all
the networking capital on the books would be recoverable at cost, whereas only 10% or $1.8
million (before taxes) of the capital investment would be recoverable
Primary Benefits of New Woodyard

Eliminates the need to purchase short wood from an outside supplier (Shenandoah Mill)
Creates the opportunity to sell short wood on the open market as a new market
Reduces operating cost and increases revenue

Problem Identification
Whether the expected benefits were enough to justify the $18million capital outlay plus the
incremental investment in working capital over the six-year life of the investment?
Recommendation: The expected benefits are enough to justify the $18million capital outlay
plus the incremental investment in working capital over the six-year life of the investment
Invest in the new longwood Woodyard

WACC
Calculation
We know,
Bank loan payable
Long term Debt

Shares outstanding
Current Market Price

Beta
Market Premium
Risk free rate
Tax Rate
Debt=
WACC
=
=

500 Debt=
Cost of debt
2500 = 5.8%

500 +
2500
5.8

500
24 Cost of equity= 4.6 + 1.10(6%)
500 x
Equity=
24
1.10%
6%
4.60%
40

20

Equity=

3000

80

Cost of Debt X debt %(1-Tax)+Cost of Equity X Equity %

5.8 X .20(1-.4) +11.2 x .80
9.656

2400