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Question $2(25$ marks$)$

Herald Lid introduced a now product, NEW ERA, is la range lasat year. The machine used is

mould each ism is a bottieneck in the production process meaning that a maximum of $5,100$ unica

per annum can be manufactured.

The NEW ERA product hara been a huge success in the maketplace and as a resut, all ikms

manulactured are sold. The marketing department has prepared the following demand forocast for

fubure years ias a result of foedback from customers.

The divecters are now considering investing in a second machine that will allow the company to

satisty the excess demand. The following information relating to this investment proposal has now

been prepared:

Intal investment

Micomum asditional nutpul

Cument selling price

Variable coprating costs

Fond cperating ceriss

$520,000$

$5,000$ unts

$350$ per unil

$328$ per unk

$$15,000$ per year

FACULTY OF COMMEREEE, MANAGEMENT AND LAW

OLD CURRICULUM MODULES

If production remained at $5,100$ units, the current selling pilce would be expected to continue

throughout the remainder of the life of the product. Howcver, if production is increased, it it

expocied that the selling price wil fall to $$45$ per unit for all unica sold. Again, this will last for the

remainder of the ife of the product.

No terminal walue or machinery scrap walue is expectod at the end of four years, when production

of NEW ERA is plamed to end. For imesatment appralsal purpoess, Herald waes a nominal

discount rabe of $10\%$ per year and a target retum on captal employed of $20\%$ per year. ignore

taxtion.

Required:

$($a$)$Calculate the following values for the imesatment proposal:

$($i$)$net present value;

$($i$)$ internal rate of reoum;

$($ii$)$retum on capial employed $($acoouning rate of retum$)$ based on intial imvestment; and.

$($iv$)$decounted paryback period

$(14$ marks$)$

$($b$)$Discuss your findings in each section of $($b$)$ above and advise whether the investment proposal

it financially acceptable.

$(5$ marks$)$

$($c$)$Explain briefly the ley sbeps that should be included in a companys capital budgefing process.

$(6$ marks$)$

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