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.

Uftin Co is a large company which is listed on a major stock market. The company has been evaluating an investment proposal to manufacture Product K3J. The initial investment of $1,800,000 will be payable at the start of the first year of operation. The following draft evaluation has been prepared by a junior employee.

Year 1 2 3 4
Sales (units/year) 95,000 100,000 150,000 150,000
Selling price ($/unit) 25 25 26 27
Variable costs ($/unit) 11 12 12 13
(Note: The above selling prices and variable costs per unit have not been inflated.)

 

      $'000     $'000     $'000     $'000
Sales revenue 2,475 2,605 4,064 4,220
Variable costs (1,097) (1,260) (1,890) (2,048)
Fixed costs (155) (155) (155) (155)
Interest payments (150) (150) (150) (150)
Cash flow before tax 1,073 1,040 1,869 1,867
Tax allowable depreciation (450) (450) (450) (450)
Taxable profit 623 590 1,419 1,417
Taxation             (137) (130) (312)
Net cash flow 623 453 1,289 1,105
Discount at 12%  0.893 0.797 0.712 0.636
Present values 556 361 918 703
         
   $'000      
Present value of cash inflows 2,538      
Cost of machine (1,800)      
NPV 738      

 

The junior employee also provided the following information:

  1. Relevant fixed costs are forecast to be $150,000 per year.
  2. Sales and production volumes are the same and no finished goods inventory is held.
  3. The corporation tax rate is 22% per year and tax liabilities are payable one year in arrears.
  4. Uftin Co can claim tax allowable depreciation of 25% per year on a reducing balance basis on the initial investment.
  5. A balancing charge or allowance can be claimed at the end of the fourth year.
  6. It is expected that selling price inflation will be 4.2% per year, variable cost inflation will be 5% per year and fixed cost inflation will be 3% per year.
  7. The investment has no scrap value.
  8. The investment will be partly financed by a $1,500,000 loan at 10% per year.
  9. Uftin Co has a weighted average cost of capital of 12% per year.

Requirements:

a

Prepare a revised draft evaluation of the investment proposal and comment on its financial acceptability.

Marks: 11
b

Explain any TWO revisions you have made to the draft evaluation in part (a) above.

Marks: 4
c

Discuss TWO ways of incorporating risk into the investment appraisal process.

Marks: 5

Answers submitted

Created by Ref Marking Action
Rakhi Gupta's picture
Rakhi Gupta
10/29/2020 - 17:39
a
9950
11
Rakhi Gupta's picture
Rakhi Gupta
10/29/2020 - 17:43
a
9820
11
Rakhi Gupta's picture
Rakhi Gupta
10/29/2020 - 17:50
b
9952
4
Rakhi Gupta's picture
Rakhi Gupta
10/29/2020 - 18:07
c
9954
5
Rakhi Gupta's picture
Rakhi Gupta
10/16/2020 - 12:45
b
9822
4
Rakhi Gupta's picture
Rakhi Gupta
10/16/2020 - 13:09
c
9824
5
Kelvin Sithole
04/25/2020 - 12:20
a
9130
11
Apurba nandy's picture
Apurba nandy
03/01/2020 - 16:28
a
6256
11
Apurba nandy's picture
Apurba nandy
03/01/2020 - 17:20
a
8900
11
Apurba nandy's picture
Apurba nandy
03/01/2020 - 17:27
c
6264
5
suy pech pech
12/14/2019 - 19:38
a
8408
11
suy pech pech
12/14/2019 - 19:37
a
8410
11
Apurba nandy's picture
Apurba nandy
12/03/2019 - 11:02
a
8354
11
Sohel Miah's picture
Sohel Miah
10/03/2019 - 11:15
b
7522
4
Sohel Miah's picture
Sohel Miah
10/03/2019 - 10:49
c
7520
5
Abhro Gourab Das's picture
Abhro Gourab Das
09/02/2019 - 21:19
a
7180
11
Subrata Banik's picture
Subrata Banik
09/02/2019 - 21:10
a
7178
11