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Project 1 XZY Limited is considering an investmen...




Project 1 XZY Limited is considering an investment in new plant of $3 million. The project will be financed with a loan of $2,000,000 which will be repaid over the next five years in equal annual end of year instalments at a rate if 9.5 percent pa. Assume straight-line depreciation over a five-year life, and no taxes. The projects cash flows before loan repayments and interest are shown in the table below. Cost of capital is 14.25% pa (the required rate of return on the project). A salvage value of $200,000 is expected at the end of year five and is not included in the cash flows for year five below. Ignore taxes and inflation. Year Year One Year Two Year Three Year Four Year Five Cash Inflow 850,000 950,000 800,000 900,000 950,000 You are required to calculate: (1) The annual loan repayment (2) NPV of the project (3) the IRR of the project (4) AE, the annual equivalent for the project(AE or EAV) (5) PB, the payback in years (to one decimal place) (6) ARR, the accounting rate of return (gross) (7) PI (present value index or profitability index) (8) Is the project acceptable? Why or why not (provide a full explanation)? Project 2 XZY Limited Wheel Division is considering a proposal to purchase a new machine to manufacture a new product for a potential three year contract. The new machine will cost $1.11 million. The machine has an estimated life of three years for accounting and taxation purposes. The contract will not continue beyond three years and the equipment estimated salvage value at the end of three years is $105,000. The tax rate is 30 percent and is payable in the year in which profit is earned. An investment allowance of twenty percent on the outlay is available. The cost of capital is 13.25%pa. Addition net working capital of $70,000 is required immediately for current assets to support the project. Assume that this amount is recovered at the end of the three year life of the project. The new product will be charged $53,500 of allocated head office administration costs each year even though head office will not actually incur any extra costs to manage the project. This is in accordance with the firm?s policy of allocating all corporate overhead costs to divisions. Extra marketing and administration cash outflows of $42,500 per year will be incurred by the Steel Division. An amount of $39,000 has been spent on a pilot study and market research for the new product. The projections provided here are based on this work. Projected sales for the new product are 32,000 units at $125 per unit per year. Cash operating expenses are estimated to be 75 percent of sales (excludes marketing and administration, and head office items). Except for initial outlays, assume cash flows occur at the end of each year (unless otherwise stated). Assume diminishing value depreciation for tax purposes. Required (a) Construct a table showing your calculations of net cash flow after tax. (Similar to that demonstrated in the notes and in class) (b) Calculate the NPV. Is the project acceptable? Why or why not? (c) Explain your calculation of relevant net cash flows after tax, justifying your selection of cash flows. Be sure to state clearly any assumptions made.


Paper#7107 | Written in 18-Jul-2015

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