With no less than 300 words, post an initial reply to the question below by Thursday at 11:55 p.m. Central Time. Then please respond to at least two classmates’ post with a sentence or two about their post by Sunday at 11:55 p.m. CT. In most cases responding to the instructor posts will also count. Please note that you will not see your classmates’ messages until you create your initial post.
Saskatchewan Mining and Steel (SMS) Corporation is evaluating whether it should produce a new synthetic steel that will require billions of dollars to develop. According to Bill Bates, the CEO of SMS, the synthetic steel should boost sales such that the company’s total new income is increased substantially. Mary, who has worked in the capital budgeting area for six years, has been asked to estimate the relevant cash flows that the synthetic steel is expected to generate.
During the past few weeks, Mary has had quite a few conversations with the company’s engineers, its production manager, and its vice president of marketing. With the information she compiled through her conversations with these people and additional information she received from independent sources, Mary put together a rather detailed forecast of the synthetic steel’s relevant cash flows. The final report, which includes only the forecasted cash flows and explanations for the forecasts, was submitted to the chief investment officer yesterday. The report does not include NPV or IRR analysis of the new product because such analyses are conducted by the investment officer.
Today, the investment officer called Mary to tell her that he thought that the forecasts she submitted were incorrect. Mary explained that her forecasts were based on a large amount of information that she had collected and corroborated in combination with analysts’ predictions concerning the potential success of the synthetic steel. As she told the investment officer, her forecasts were based on optimistic growth rates in sales for the synthetic steel during the next 15 years. The investment officer said that he thought the growth of such a revolutionary product could be higher than Mary estimated, so he asked her to reconsider her cash flow estimates. Although she had reviewed the numbers dozens of times and she is convinced her forecasts are reliable, Mary agreed to “go over” the forecasts one more time. Being a team player is important to Mary because she wants to move up the corporate ladder as quickly as possible, and she believes that her rise to the executive suite will be enhanced if she cooperates with her superiors, including the investment officer.
Because she set up her forecast on a spreadsheet, Mary knew it would be easy to change the growth rate of sales to get new cash flow forecasts for the synthetic steel. But Mary didn’t think that growth rates higher than the ones she used in her original forecasts could be achieved, even if the synthetic steel proved to be a huge success. She did, however use the higher growth rates that the investment officer had suggested and generated a new set of forecasted cash flows for the synthetic steel. Even though she is convinced that the new growth rates are likely not attainable, Mary sent her new forecasts to the investment office a little while ago. She figured, “What’s the difference? I don’t make the final decision anyway.”
Do you believe that Mary should have changed her forecasts? What would you have done if you were in Mary’s position?
Shawn Tully, “The (Second) Worst Deal Ever,” Fortune, October 16, 2006, 102-119.
Colin Barr, “Bailout cost: higher than you think”Fortune (online), September 18, 2008, http://archive.fortune.com/2008/09/19/news/paulson.wrong.message.fortune/index.htm
Colin Barr, “Let big banks fail, bailout skeptics say,” Fortune (online), April 21, 2009, http://archive.fortune.com/2009/04/21/news/too.big.fortune/index.htm?postversion=2009042113