ASSIGNMENT A

QUESTION ONE
YEAR
1 New Machine Cost

(22.00)

2 Annual Revenue

5.00

5.00

5.00

5.00

5.00

3 Decrease in operational Costs

1.10

1.10

1.10

1.10

1.10

(3.17)

(1.90)

(1.14)

2.93

4.20

4.96

(0.59)

(0.84)

(0.99)

2.34

3.36

3.97

4 Depreciation (W1)

(8.80)

5 Profit Before Tax (PBT)

(2.70)

6 Tax 20%

0.54

7 Profit After Tax (PAT)

8 Net Salvage: Old Machine
9

Net Salvage: New Machine

10

Initial Investment(1)

(2.16)
6.00

(5.28)
0.82
(0.16)
0.66

6.00
(22.00)

11 Operating Cash In-flows (7+4)

6.64

12 Terminal Cash Flows (8+9)

6.00

5.94

5.51

5.26

5.11
6.00

13 Net Cash Flow(10+11+12)

14 Discount Factor @ 17%

(22.00)
1.00

12.64
0.855

5.94 5.51
5.26
11.11
0.731
0.624
0.534
0.456

15 Present Value
16 Net Present value

(22.00)

10.81
4.46

4.34

3.44

2.81

5.07

Precision Engineering Ltd should replace the old machine with the new machine. The positive
net present value shows that the new machine will add value to the firm.

Note 1
Year
0 Investment
1 Depreciation @40%
Writing Down Value (WDV)
2 Depreciation @40%
Writing Down Value (WDV)
3 Depreciation @40%
Writing Down Value (WDV)
4 Depreciation @40%
Writing Down Value (WDV)
5 Depreciation @40%
Writing Down Value (WDV)

22.00
(8.80)
13.20
(5.28)
7.92
(3.17)
4.75
(1.90)
2.85
(1.14)
1.71

QUESTION TWO
Part a
The cash flows for investment proposal from the long term funds point of view are cash
flow streams which reflect the contributions made and benefits receivable by equity
shareholders for the use of funds from long term lenders. They are divided into 3
components:
Initial Investment: Long Term funds committed to the Project; Fixed Assets + Working
Capital Margin
Operating Cash Flows: Profit after Tax (PAT) + Depreciation + Other Non-Cash charges
+ Interest on Term Loans (1-TR)
Terminal Cash Flow: Net Salvage Value of Fixed Assets + Net Recovery of Working
capital Margin

Part b
YEAR

1,000.00

1,200.00

3 Cost of Production
4 Depreciation(W1) (i) Buildings

(700.00)
(4.00)

(840.00)
(4.00)

1,500.00
(1,050.00
)
(4.00)

1,500.00
(1,050.00
)
(4.00)

1,500.00
(1,050.00
)
(4.00)

(ii) Plant and machinery @ 33%

(iii) other fixed assets @33%
5 Interest: (i) Term Loan @16%
(ii) Bank Loan @ 18%
6 Profit Before Tax (PBT)
7 Tax 30%
8 After Tax (PAT)
9 Preferred Dividends
10 PAT & Preferred Dividends
11 Salvage: Plant and Machinery
: Other Fixed assets
: Land
:Building
12 Net Salvage Value of W/Capital
13 Repayment of Term Loan
14 Repayment of Bank Loan

(165.00)
(33.00)
(48.00)
(61.20)
(11.20)
3.36
(7.84)
(7.84)

(110.55)
(22.11)
(48.00)
(61.20)
114.14
(34.24)
79.90
(30.00)
49.90

(74.07)
(14.81)
(48.00)
(61.20)
247.92
(74.38)
173.54
(30.00)
143.54

(49.63)
(9.93)
(48.00)
(61.20)
277.24
(83.17)
194.07
(30.00)
164.07

(0.76)
(20.15)
(48.00)
(61.20)
315.89
(94.77)
221.12
(30.00)
191.12
100.00
80.00
100.00
450.00
(300.00)
(340.00)

259.72

309.59

300.79

289.20

1 Total Funds Invested

2 Revenue

15 Initial Investment(1)
16 Operating Cash In-flows [10+4+5(1T)]
17 Terminal Cash Flows
[11+12+13+14]

0
(1,390.00
)

(1,390.00
)
0 267.32

90.00

18 Net Cash Flow[15+16+17]

19 Discount Factor @ 20%

(1,390.00
)
1.000

267.32
0.833

259.72
0.694

309.59
0.579

300.79
0.482

379.20
0.402

20 Present Value

(1,390.00
)

222.68

180.25

179.25

144.98

152.44

21 Net Present value

(510.40)

WORKINGS
Depreciation: i) Plant and Machinery
YEAR Investment
1 Depreciation @33%
Writing Down Value (WDV)
2 Depreciation @33%
Writing Down Value (WDV)
3 Depreciation @33%
Writing Down Value (WDV)
4 Depreciation @33%
Writing Down Value (WDV)
5 Balancing Charge
Writing Down Value (WDV)

500.00
(165.00)
335.00
(110.55)
224.45
(74.07)
150.38
(49.63)
100.76
(0.76)
100.00

ii) Other Fixed Assets

YEAR Investment
1 Depreciation @33%
Writing Down Value (WDV)
2 Depreciation @33%
Writing Down Value (WDV)
3 Depreciation @33%
Writing Down Value (WDV)
4 Depreciation @33%
Writing Down Value (WDV)
5 Balancing Charge
Writing Down Value (WDV)

100.00
(33.00)
67.00
(22.11)
44.89
(14.81)
30.08
(9.93)
20.15
(20.15)
0.00

iii) Building 4% of acquisition cost on straight line is Rs.4 per year

a. To calculate the Internal Rate of Return (IRR)we estimate the second value of the NPV at
a lower discount rate say 10% and use the interpolation formula to calculate the IRR
4

NPV at 10% discount rate will be

15 Initial Investment
(1,390.00)
16 Operating Cash In-flows [10+4+5(1-T)] 0
267.32
259.72
17 Terminal Cash Flows [11+12+13+14]
18 Net Cash Flow[15+16+17]
(1,390.00) 267.32
259.72
19 Discount Factor @ 10%
1.000
0.909
0.826
20 Present Value
(1,390.00) 242.99
214.53
21 Net Present value
(243.47)
Extracted from 2(b) above but with new discount factor of 10%

IRR=L+[

309.59

300.79

309.59
0.751
232.50

300.79
0.683
205.44

NPV L
](HL)
NPV L NPV H

Where IRR= Internal rate of Return

L= Lower Discount Rate (10%)
H= Higher Discount Rate (20%)
NPV L = Net Present Value at a Lower Rate 243.47
NPV H

= Net Present Value at a Higher Rate -510.40 (in b. above)

IRR=10 +[

243.47
](20 10 )
243.47(510.40 )

IRR=10 +[

243.47
](10 )
243.47+ 510.40

IRR=10 +[

243.47
](10 )
266.93
5

289.20
90.00
379.20
0.621
251.07

IRR=10 +(0.91 10 )
IRR=10 9.1
IRR=0.9

b. With the discount factor of 20% the project gives a negative net present value. Matrix
Pharma Ltd should not go ahead with the proposed investment.
If additional cash flow of Rs. 5 Crores arises by disposing off the project then the
terminal cash flows would go up by Rs. 5 Crores. The new NPV would therefore be as
follows

15 Initial Investment

(1,390.00)

16 Operating Cash In-flows [10+4+5(1T)]

267.32

259.72

309.59

300.79

(1,390.00) 267.32

259.72

309.59

300.79

1.00

0.694

0.579

0.483

879.20
0.40
2

180.25

179.25

145.28

353.44

17 Terminal Cash Flows [11+12+13+14]

18 Net Cash Flow[15+16+17]
19 Discount Factor @ 20%
20 Present Value

289.2
0
590.0
0

0.833

(1,390.00) 222.68

(309.10
)
Extracted from 2(b) above with addition of 500 to terminal cash flows

21 Net Present value

The project would still not be worthwhile because the project NPV is still negative. Matrix
Pharma Ltd should still not go ahead with the investment

QUESTION THREE
a.
Year 1
CF
800
600
400
200

P
0.1
0.2
0.4
0.3

Mean

Year 2
CF P

80
120
160
60
420

CF
800
700
600
500

CF= Cash flow, P= Probability and

Year 3
CF P

P
0.1
0.3
0.4
0.2

CF
1200
900
600
300

Total Present
Value
399.84
571.41
725.76
1,697.01
(1,500.00)
197.01

YEAR 1

(CFCF)

CF P

80
240
210
450
240
120
100
30
630
840
CF P=Cash flow multiplied by Probability

Determination of expected NPV

Present Value Factor
Year
Mean Cash flows
@5%
1
420.00
0.952
2
630.00
0.907
3
840.00
0.864
Total Present Value Cash inflows
Less cash Outflows
NPV

b.

P
0.2
0.5
0.2
0.1

2
(CFCF)

2 P
(CFCF)

(800420)

3802=144,400

144,400 0.1=14, 440

(630420)

2102=44,100

44, 100 0.2=8,820

(400420)

20 2=400

400 0.4=160

(200420)

2202=48, 400

48, 400 0.3=14520

)2 P
(CFCF

37,940.00

37,940.00=194.78

YEAR 2

(CFCF)

)2
(CF CF

2 P
(CFCF)

(800630)

1702=144,400

28, 900 0.1=2, 890

(700630)

702=44,100

4, 900 0.3=1, 470

(600630)

30 2=400

900 0.4=360

(500630)

130 =48, 400

16, 900 0.2=3, 380

8100.00

)2 P
(CFCF
2

8100.00=90

YEAR 3
)
(CF CF

2
(CF CF)

)2 P
(CF CF

(1200840)

3602=129,600

129600 0.2=25, 920

(900840)

602=3, 600

3,600 0.5=1, 800

(600840)

240 2=57,600

57,600 0.2=11, 520

(300840)

5402=291, 600

2P
(CFCF)

68, 400.00

68400.00=261.53

12
22
32
NPV =
+
+
( 1+i)2 (1+i)2 (1+i)2

NPV =

37940
8100
68400
+
+
2
2
(1+ 0.05) (1+0.05) (1+0.05)2

NPV =

37940 8100 68400

+
+
1.1025 1.1025 1.1025

NPV =103800.4535
NPV =322.18

c. The probability that the NPV will be Zero or Less

X NPV
Z = NPV
NPV

Z=

291,600 0.1=29,160

0197.01
322.18

Z =0.61
From the Z table
P ( Z 0.61 )=0.270927.09
9

QUESTION FOUR
Domestic Prices
Rs.
Rs.

Tradable Inputs

Raw materials (world Price ( 600 1.25 )

700
150

Consumables
Total
Non Tradable Inputs
Other overheads
Repairs and Maintenance
Adminstrative overheads
Selling Overheads
Total
Total Inputs
Sales realization

World Prices
Rs.
Rs.
750
200

850
100
44
110
60

Value Added

950
100
44
110
60

314
1164
1500

314
1264
1500

336

236

Effective Rate of Protection( ERP)

ERP=

Value Added at Domestic priceValue Added at World Price

100
Value Added at world Price

ERP=

336236
100
236

ERP=

100
100
236

ERP=0.42 100

ERP=42
Domestic resource Cost (DRC)
10

DRC=( ERP+ 1 ) Exchange Rate

DRC=( 0.42+1 ) Rs .45
DRC=1.42 Rs .45
DRC=Rs . 63.90

The effective rate of protection (ERP) of 42% means that the value added at domestic prices to
manufacture spices would have been higher by 42% if the price of imported inputs were not
distorted through policy intervention of 25% tariff. The Domestic resource cost of Rs.63.90 is the
spending required by M/S Global Spices to generate a saving of $1. The ERP assumes that the
domestic prices and the world prices are not equal

QUESTION FIVE
A preliminary appraisal involves an initial specification of the nature and objectives of the
project and of relevant background circumstances economic, social and legal). Format of
Preliminary Appraisal
In terms of format a preliminary appraisal should include a clear statement of the needs which a
project is designed to meet and the degree to which it would aim to meet them. It should identify
all realistic options, including the option of doing nothing and, where possible, quantify the key
elements of all options. It should contain a preliminary assessment of the costs and gains of all
options choose the preferred one and make a judgement on whether its gains (the net present
value) are sufficient to warrant incurring its costs.
11

On the basis of the preliminary appraisal, the Sponsoring company or government agency should
decide whether formulating and assessing a detailed appraisal would be worthwhile or whether
to drop the project. A recommendation to undertake a detailed appraisal should state the terms of
reference of that appraisal

12