Darn Co has undertaken market research at a cost of $200,000 in order to forecast future cash flows of an investment project with an expected life of four years, as follows:

Year |
1 |
2 |
3 |
4 |

$'000 | $'000 | $'000 | $'000 | |

Sales revenue | 1,250 | 2,570 | 6,890 | 4,530 |

Costs | 500 | 1,000 | 2,500 | 1,750 |

These forecast cash flows are before taking account of general inflation of 4.7% per year. The capital cost of the investment project, payable at the start of the first year, will be $2,000,000. The investment project will have zero scrap value at the end of the fourth year. The level of working capital investment at the start of each year is expected to be 10% of the sales revenue in that year.

Tax allowable depreciation would be available on the capital cost of the investment project on a 25% reducing balance basis. Darn Co pays tax on profits at an annual rate of 30% per year, with tax being paid one year in arrears. Darn Co has a nominal (money term) after-tax cost of capital of 12% per year.

## Requirements:

Calculate the net present value of the investment project in nominal terms and comment on its financial acceptability.

Discuss the problems faced when undertaking investment appraisal in the following areas and comment on how these problems can be overcome:

(i) Assets with replacement cycles of different lengths

(ii) An investment project has several internal rates of returns

'Despite the theoretical limitations of the payback method of investment appraisal, it is the method most used in practice.'

Discuss above statement briefly.

## Answers submitted

Created by | Ref | Marking | Action |
---|---|---|---|

a 9914 |
10 | ||

b 9918 |
5 | ||

c 9920 |
5 | ||

a 9768 |
10 | ||

b 9770 |
5 | ||

c 9772 |
5 | ||

a 9110 |
10 | ||

a 9108 |
10 | ||

b 9104 |
5 | ||

c 9106 |
5 | ||

a 8896 |
10 | ||

a 7984 |
10 | ||

a 8350 |
10 | ||

a 6348 |
10 | ||

b 7996 |
5 | ||

c 8010 |
5 | ||

a 7992 |
10 |

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