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Belts U. Belts was entering a new market in 2002, the selling of conveyor belts to domestic manufacturers. Prior to 2002 U.
U. S. Belts was entering a new market in 2002, the selling of conveyor belts to domestic manufacturers. Prior to 2002 U. S. Belts had been one of the top manufacturers of belt webbing from their plant in Springdale, Arkansas. The plant had started production of nylon webbing for the automotive industry (seatbelts) in 1964, and had slowly diversified into other venues. By 1996, the auto industry was only 32% of U. S. Belt's total sales as measured in volume and 28% in revenue.
U. S. Belts was currently attempting to launch a new product in the industrial conveyor belt market made from aramid fiber webbing. Most conveyor belts are rubber or a neoprene based composite. The rubber or a neoprene based composite belts have a tendency to stretch, overheat or buckle in some applications. These problems will give rubber or neoprene belts a shorter life due to the problems previously discussed and result in quicker belt failure. Rubber or neoprene composite belts are also limited to a fairly straight delivery range. The belts generally have trouble when even a small turn or change in the delivery angle is required.
Aramid fiber is best known a bulletproof or (by the preferred term) bullet resistant material. For example, Kevlar is the DuPont Company's brand name for aramid fiber. The properties of aramid fiber are legendary. It is flexible, light weight and wear resistant. Aramid fiber is spun in the same way that a spider spins a web, the resulting fiber has tremendous strength, and is heat and cut resistant. The fibers do not rust or corrode, and their strength is unaffected by water. Kevlar's main weaknesses are that it decomposes under alkaline conditions or when exposed to chorine. While it can have a great tensile strength, sometimes in excess of 4.0 Gpa like all fibers it tends to buckle in compression. (Gpa is a tensile strength scale that is used for comparison. A 4.0Gpa, means that it has 4 times the strength of nylon of comparable thickness)
U. S. Belts has hired you to help develop their new marketing and sales campaign. Most of the company representatives that the sales force from U.S. Belt will be selling to have their background in engineering, and have above average skills in math and technology. Specifically, your job will be to develop the financial aspect of marketing the new belt. In general, this will include appealing to the buyers "cost conscious" nature of switching to the new type of aramid fiber belts.
A study of the industry and potential U.S. Belt customers revealed some interesting data (Table 1 and Table 2). The cost of the average conveyor belt system for their customers is $300,000. Installation, conversion to new bearings (the new belts require a new type of cool running ball bearing) will cost another $30,000. This expense will be added to the book value of the plants and be eligible for depreciation. A MACRS life class of three years would be employed, even though the aramid fiber belts would last on average 4 years. At the end of the four years the belts would have no economic value and a salvage value of zero. The depreciation on the belts under the current MACRS will be 33%, 45%, 15% and 7% in years 1 through 4 respectively. The average company will have a 11% cost of capital, and an annual tax rate of 28%.
The cost savings with the new belts are lower maintenance costs, far less downtime due to belt slippage, adjustment, and lower bearing replacement costs. The new aramid fiber belts are expected to save the average company $140,000/year. The new aramid fiber belts, however, would not have any useable life after their final year. They would be fully depreciated. The cost of removal would equal the scrap value would give them a net current market value of zero.
In a counter move the rubberized based conveyer belt manufacturers have brought out a newer, longer lasting type of belt that will sell for $210,000. Installation will cost another $20,000. As with the aramid fiber belts, this expense will be added to the book value of the plants and be eligible for depreciation. A MACRS life class of three years would be employed with the same depreciation rates and cost of capital as previously assumed. The newer type of rubberized belt would last 4 years. Also, the new rubberized belt is projected to save the average company $85,000/yr. In most cases the belts being replaced would have some useable life even though they are fully depreciated. The cost of removal minus the scrap value would give them a market values of $35,000.
U.S. Belts New Aramid Fiber Belt
Projected Annual Net Cash Flows
Net Depreciation Cost Savings Annual After
Year Costs Tax Savings (After-Tax) Tax Cash Flows
0 $(310,000) $(320,000)
1 $38,115 $91,000 129,115
2 $51,975 $91,000 142,975
3 $17,325 $91,000 108,325
4 $8,085 $91,000 99,085
New Rubberized Conveyor Belts
Projected Annual Net Cash Flows
Net Depreciation Cost Savings Salvage Value Annual After
Year Costs Tax Savings (After-Tax) (After-Tax) Tax Cash Flows
0 $(208,000) $(218,000)
1 $26,565 $55,250 81,815
2 $36,225 $55,250 91,475
3 $12,075 $55,250 67,325
4 $5,635 $55,250 $22,750 83,635
Your job is to develop a presentable capital budgeting template for U. S. Belt's sales force. Your model, for the most part, will help non-financial sales representatives sell the new product to both financially experienced and non-financial experienced plant mangers and purchasing agents. Your presentation must be clear, technically correct and easily understandable to both parties.
Note: Table 1 and table 2 are project assumptions are based off of the figures and calculations provided in the case.