You must be a registered user and login to this site before practicing questions on this software. 
Use user login form to login or to request for new account. 
Use contact form if you require further assistance on this issue.

Hraxin Co is appraising an investment project which has an expected life of four years and which will not be repeated. The initial investment, payable at the start of the first year of operation, is $5 million. Scrap value of $500,000 is expected to arise at the end of four years.

There is some uncertainty about what price can be charged for the units produced by the investment project, as this is expected to depend on the future state of the economy. The following forecast of selling prices and their probabilities has been prepared:

Future economic state  Weak  Medium  Strong
Probability of economic state  35% 50% 15%
Selling price /unit
(in current price terms)
$25  $30  $35

 

These selling prices are expected to be subject to annual inflation of 4% per year, regardless of which economic state prevails in the future.

Forecast sales and production volumes, and total nominal variable costs, have already been forecast, as follows:

Year  1 2 3 4
Sales and (units)   150,000   250,000   400,000   300,000
Variable cost
Nominal($000)
2,385 4,200 7,080 5,730

 

Incremental overheads of $400,000 per year in current price terms will arise as a result of undertaking the investment project. A large proportion of these overheads relate to energy costs which are expected to increase sharply in the future because of energy supply shortages, so overhead inflation of 10% per year is expected.

The initial investment will attract tax-allowable depreciation on a straight-line basis over the four-year project life. The rate of corporation tax is 30% and tax liabilities are paid in the year in which they arise. Hraxin Co has traditionally used a nominal after-tax discount rate of 11% per year for investment appraisal.

Requirements:

a

Calculate the expected net present value of the investment project and comment on its financial acceptability.

Marks: 9
b

Distinguish between risk and uncertainty and briefly explain why they should be considered in the investment appraisal process. 

Marks: 5
c

Critically discuss if sensitivity analysis will assist Hraxin Co in assessing the risk of the investment project.

Marks: 6

Answers submitted

Created by Ref Marking Action
Rakhi Gupta's picture
Rakhi Gupta
10/28/2020 - 12:14
a
9938
9
Rakhi Gupta's picture
Rakhi Gupta
10/28/2020 - 12:29
b
9940
5
Rakhi Gupta's picture
Rakhi Gupta
10/28/2020 - 14:08
c
9942
6
Rakhi Gupta's picture
Rakhi Gupta
10/15/2020 - 00:44
a
9812
9
Rakhi Gupta's picture
Rakhi Gupta
10/15/2020 - 01:12
b
9814
5
Rakhi Gupta's picture
Rakhi Gupta
10/15/2020 - 01:38
c
9816
6
Rakhi Gupta's picture
Rakhi Gupta
10/04/2020 - 16:58
a
9754
9
Apurba nandy's picture
Apurba nandy
03/01/2020 - 15:11
a
8898
9
Apurba nandy's picture
Apurba nandy
12/03/2019 - 10:13
a
8352
9
Tanbirul Kabir Tanbir's picture
Tanbirul Kabir ...
11/18/2019 - 12:07
a
8032
9 / 9
Tanbirul Kabir Tanbir's picture
Tanbirul Kabir ...
11/17/2019 - 17:50
b
8034
5 / 5
Tanbirul Kabir Tanbir's picture
Tanbirul Kabir ...
11/17/2019 - 18:03
c
8036
3 / 6
Abhro Gourab Das's picture
Abhro Gourab Das
09/03/2019 - 00:45
a
7184
9
Ariful islam's picture
Ariful islam
09/03/2019 - 22:07
a
7188
9
Sohel Miah's picture
Sohel Miah
08/07/2019 - 08:04
a
6738
9
Apurba nandy's picture
Apurba nandy
06/07/2019 - 01:02
a
6662
9
Apurba nandy's picture
Apurba nandy
06/07/2019 - 00:31
a
6132
9