NPV – Knowsia

SCS – L3 – Q15 – Environment analysis

Analyze the general environment of Beta Pure Water Ltd using PESTEL framework.

Question

(a)Assess the general environment in which Beta Pure Water Ltd operates

(b) Analyse the nature of competition faced by Beta Pure Water Ltd. (c) Advise management on the best option between lease or buy. Support your advice with relevant calculations. (d)Explain TWO other factors you will consider in reaching your conclusion in (c) above.

Answer

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Tags: Beta Pure Water, Capital Investment, Depreciation, Investment decisions, Lease vs Buy, NPV, Tax Savings
Level: Level 3

Topic: Investment decisions

FM – L2 – Q84 – Discounted cash flow

Calculate NPV and estimate IRR for a project with given cash flows and discount rates.

Question

A company is considering whether to invest in a new item of equipment costing GH₵45,000 to make a new product. The product would have a four-year life, and the estimated cash profits over the four-year period are as follows.

Year	GH₵
1	17,000
2	25,000
3	16,000
4	4,000

The project would also need an investment in working capital of GH₵8,000, from the beginning of Year 1.
The company uses a discount rate of 11% to evaluate its investments.
Required
Calculate the NPV of the project at the discount rate of 11%.
Using the NPV you have calculated at 11%, and the NPV at a discount rate of 15%, estimate the internal rate of return (IRR) of the project.

Answer

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Tags: Capital Budgeting, Discounted cash flow, investment appraisal, IRR, NPV
Level: Level 2

Topic: Discounted cash flow

FM – L2 – Q82 – Discounted Cash Flow

Calculate NPV of a project with given cash flows and 10% cost of capital, and state if it should be undertaken.

Question

A company has a cost of capital of 10%. Calculate the NPV of an investment project with the following estimated cash flows:

Years	Cash flow each year
	GH₵
0	(70,000)
1	15,000
2–4	12,000
5–10	8,000

State whether the project should be undertaken.

Answer

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Tags: Cash Flows, Cost of Capital, Discounted cash flow, investment appraisal, NPV
Level: Level 2

Topic: Discounted cash flow

FM – L2 – Q78 – Discounted cash flow

Calculate NPV for Woodland Enterprises' new product investment with inflation and advise on project viability.

Question

Woodland Enterprises plans to invest GH₵7 million in a new product. Net contribution over the next five years is expected to be GH₵4.2 million per annum in real terms. Marketing expenditure of GH₵1.4m per annum will also be needed. Expenditure of GH₵1.3m per annum will be required to replace existing assets which will now be used on the project but are getting to the end of their useful lives. This expenditure will be incurred at the beginning of each year. Additional investment in working capital equivalent to 10% of contribution will need to be in place at the start of each year. Working capital will be released at the end of the project. The following forecasts are made of the rates of inflation each year for the next five years:

Contribution	Marketing	Assets	General prices
8%	3%	4%	4.70%

The real cost of capital of the company is 6%. All cash flows are in real terms. Ignore tax.

Required:
Calculate the net present value of the project and appraise whether it is a worthwhile project.

Answer

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Tags: Capital Investment, Contribution, Cost of Capital, Discounted cash flow, Inflation, NPV, Working Capital
Level: Level 2

Topic: Discounted cash flow

FM – L2 – Q75 – Discounted cash flow

Calculate NPV to decide between maintaining old equipment or buying new equipment for Wisdom Ltd, using a 20% cost of capital.

Question

The maintenance manager of Wisdom Ltd insists that management should maintain an old piece of equipment that had been used for 5 years and is fully depreciated rather than buy a new one. The old equipment has a current operating cost of GH₵53,000.00 per annum. The operating cost of the equipment is expected to increase at 5% every year over the next four years, with a sale value of GH₵6,500.00 in the fifth year.

The maintenance manager has proposed that a new system with enhanced technology to reduce operating cost to GH₵32,000.00 for the next three years and GH₵33,600.00 for the fourth and fifth years be introduced. The new equipment will cost GH₵60,000.00 and when introduced, a redundancy cost of GH₵25,000.00 will be paid, with the old equipment sold for GH₵12,000.00. The sale value of the new equipment will be GH₵10,200.00 after its five years’ useful life.

Required:

Using net present value (NPV) method of capital appraisal with 20% cost of capital, advise management on which option Wisdom Ltd should go for.

Answer

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Tags: Cost of Capital, Discounted cash flow, Equipment replacement, NPV, operating costs
Level: Level 2

Topic: Discounted cash flow

FM – L2 – Q74 – Discounted Cash Flow

Calculate NPV for TechNova Ltd's new game Zestora, considering sales, costs, and tax over four years.

Question

TechNova Ltd

(a) TechNova Ltd, a software company, has developed a new game “Zestora” which it plans to launch in the near future. Sales volumes, production volumes, and selling prices for “Zestora” over its four-year life are expected to be as follows:

Year	Sales and production (units)	Selling price (GH₵ per game)
1	15,000	45
2	25,000	40
3	20,000	38
4	10,000	35

Financial information relating to the production of Zestora:

Item	GH₵ per game
Direct materials	6
Direct labour	8
Variable production overheads	4

Additional information:

Annual fixed production overheads will be GH₵150,000.
Initial investment in equipment will be GH₵800,000.
Additional working capital of GH₵50,000 will be needed at the beginning of the project and will be released at the end of year four.
Tax at the rate of 25% is payable on profits one year in arrears.
Capital allowance is available at 25% per year on a reducing balance basis.
TechNova Ltd’s cost of capital is 10%.
The equipment will have no residual value at the end of year four.

Required: Calculate the net present value of the proposed investment and comment on your findings.

Answer

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Tags: Capital Investment, Cost Estimation, Discounted cash flow, Financial analysis, Inflation, NPV, Project Appraisal, Sales Forecast, Software Industry, Taxation
Level: Level 2

Topic: Taxation and Inflation

FM – L2 – Q72 – Discounted cash flow

Calculate NPV for two machines with given cash flows, tax, and capital allowances.

Question

72 NANTWI PLC
The directors of Nantwi Plc are meeting to decide about the replacement of a machine. The existing machine has to be replaced soon, and there is a choice of two machines that could be purchased to replace it. These are Machine A and a larger Machine, B. The following information is available about each machine:

	Machine A	Machine B
Expected working life	4 years	5 years
Initial cost	GH₵600,000	GH₵750,000
Residual value	GH₵0	GH₵0
Working capital requirement	GH₵100,000	GH₵200,000

The forecast pre-tax cash flows that will be earned using each machine are as follows:

	Year 1	Year 2	Year 3	Year 4	Year 5
	GH₵000	GH₵000	GH₵000	GH₵000	GH₵000
Machine A	470	520	490	450
Machine B	580	640	500	500	400

Nantwi Plc uses 10% as its cost of capital for capital expenditure evaluation.
Taxation at 30% is payable one year in arrears. Capital allowances are available at the rate of 25% each year on the reducing balance method. Inflation should be ignored.

Required
(a) Calculate the NPV with each of the machines.

(b) Calculate the payback period for each machine.

Answer

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Tags: Capital Budgeting, Investment decision, Machine Replacement, NPV
Level: Level 2

Topic: Capital budgeting

FM – L2 – Q71 – Discounted Cash Flow

Calculate NPV for a project with GH₵3M equipment cost, 5-year cash flows, and 8% cost of capital, ignoring inflation and taxation.

Question

A company, Zenith Innovations Ltd, is considering an investment in a new project to manufacture and sell a new product with a five-year lifespan. The project requires an investment of GH₵3 million in equipment. The residual value of this equipment after five years will be 30% of its original cost.

The estimates of net cash flows from operations in each year of the project are as follows:

Year	Net Cash Flow (GH₵)
1	400,000
2	800,000
3	800,000
4	700,000
5	400,000

These cash flows are based on estimates that the annual increase in cash spending on fixed costs will be GH₵200,000, and the contribution/sales ratio from transactions will be 40%. The company’s cost of capital is 8%.

The management of Zenith Innovations Ltd is aware that actual cash flows could be higher or lower than expected, and sensitivity analysis should be carried out to establish the extent to which costs or revenues could differ from the estimate before the project ceases to have a positive NPV.

The investment in working capital will be minimal. Inflation and taxation should be ignored.

Required
(a) Calculate the net present value of the project.

(b) Carry out sensitivity analysis on the following items:

(i) The cost of the equipment, assuming that the residual value will be 30% of cost.

(ii) The residual value of the equipment.

(iii) Sales revenue.

(iv) Variable costs.

(v) Annual fixed costs.

Answer

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Tags: investment appraisal, NPV, Project Risk, Risk Assessment, Sensitivity Analysis
Level: Level 2

Topic: DCF: Risk and uncertainty

FM – L2 – Q69 – Discounted cash flow

Calculate NPV of replacing Product X with Product Y using DCF analysis, with given sales, costs, and 8% cost of capital.

Question

A well-established company in the region of the Volta River manufactures engines. One of its current products is Product X, for which sales will be 150,000 units in the year just ending (Year 1). However, after four more years, at the end of Year 5, Product X will no longer be permitted, when new government environmental regulations come into force. On or before that time, the company needs to introduce a new product to replace Product X.
A replacement product has already been developed. This is Product Y. A market research report has estimated that, if Product Y is introduced to the market now to replace Product X, annual sales of Product Y at a unit price of GH₵350 would be:

Annual sales (units)	Probability
100,000	0.2
80,000	0.5
50,000	0.3

The current selling price of Product X is GH₵250 per unit, and its variable cost of sales is GH₵180. There is no possibility of increasing the selling price.
The annual sales demand for Product X is expected to fall each year if it is kept on the market. The best estimate is that annual sales in Year 2 will be 10,000 units less than in Year 1, with a further fall in sales by 10,000 units each year until Year 5.
To prepare a production facility for manufacturing Product Y instead of Product X, an initial capital outlay of GH₵2,000,000 would be required. Annual fixed costs would increase by GH₵160,000. The variable cost of making and selling Product Y would be GH₵230 per unit.
The company’s cost of capital is 8%. Ignore inflation and taxation.

Required:
(a) Using DCF analysis, calculate the NPV of a proposal to replace Product X with Product Y from Year 2 onwards.

(b) Estimate the minimum annual sales for Product Y that would be required to justify the immediate replacement of Product X with Product Y. Assume that the estimates of annual sales of Product X are correct.

(c) Calculate the minimum reduction in the annual sales of Product X, in Year 2 and in each subsequent year that would be necessary before you recommended the immediate replacement of Product X with Product Y. Assume that the estimates of annual sales of Product Y are correct.

(d) List briefly the weaknesses or limitations in the financial analysis in part (a) to (c) above.

Answer

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Tags: DCF, Financial analysis, Limitations, NPV, product replacement
Level: Level 2

Topic: Discounted cash flow

FM – L2 – Q68 – Discounted Cash Flow

Calculate the expected NPV of a new product launch for Accra Nova Cosmetics Limited with given cash flows and a 12% cost of capital.

Question

Accra Nova Cosmetics Limited has designed a new product that it would like to introduce to the market. It has spent GH¢250,000 on the design work so far. A market research report has indicated that the product will have a life of four years, and at a selling price of GH¢35 per unit, annual sales would be as follows:

Year	Sales (units)
1	40,000
2	60,000
3	60,000
4	20,000

It has been estimated that to produce the new product, annual fixed production costs (all cash flows) will increase by GH¢200,000, and the variable cost per unit will be GH¢10.
Other cash flows for the project will be:

Capital expenditure of GH¢1,400,000 at the beginning of the project. There will be a residual value of GH¢600,000 from this investment at the end of Year 4.
An investment of GH¢400,000 will be required in working capital. This will be recovered at the end of Year 4.
Expenditure on advertising will be required, as follows:

Year	Advertising costs
0	800,000
1	600,000
2	400,000
3	200,000

Required
(a) Calculate the expected NPV of the project to launch the new product, if the company’s cost of capital is 12%.

(b) Calculate the target cost for the product that is needed to achieve a return of 12% on investment and calculate the size of the current cost gap.

Answer

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Tags: Cost Gap, investment appraisal, NPV, Target Cost, variable costs
Level: Level 2

Topic: Discounted cash flow

Tag (SQ): NPV

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SCS – L3 – Q15 – Environment analysis

Analyze the general environment of Beta Pure Water Ltd using PESTEL framework.

FM – L2 – Q84 – Discounted cash flow

Calculate NPV and estimate IRR for a project with given cash flows and discount rates.

FM – L2 – Q82 – Discounted Cash Flow

Calculate NPV of a project with given cash flows and 10% cost of capital, and state if it should be undertaken.

FM – L2 – Q78 – Discounted cash flow

Calculate NPV for Woodland Enterprises' new product investment with inflation and advise on project viability.

FM – L2 – Q75 – Discounted cash flow

Calculate NPV to decide between maintaining old equipment or buying new equipment for Wisdom Ltd, using a 20% cost of capital.

FM – L2 – Q74 – Discounted Cash Flow

Calculate NPV for TechNova Ltd's new game Zestora, considering sales, costs, and tax over four years.

FM – L2 – Q72 – Discounted cash flow

Calculate NPV for two machines with given cash flows, tax, and capital allowances.

FM – L2 – Q71 – Discounted Cash Flow

Calculate NPV for a project with GH₵3M equipment cost, 5-year cash flows, and 8% cost of capital, ignoring inflation and taxation.

FM – L2 – Q69 – Discounted cash flow

Calculate NPV of replacing Product X with Product Y using DCF analysis, with given sales, costs, and 8% cost of capital.

FM – L2 – Q68 – Discounted Cash Flow

Calculate the expected NPV of a new product launch for Accra Nova Cosmetics Limited with given cash flows and a 12% cost of capital.

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SCS – L3 – Q15 – Environment analysis

Analyze the general environment of Beta Pure Water Ltd using PESTEL framework.

You're reporting an error for "SCS – L3 – Q15 – Environment analysis"

FM – L2 – Q84 – Discounted cash flow

Calculate NPV and estimate IRR for a project with given cash flows and discount rates.

You're reporting an error for "FM – L2 – Q84 – Discounted cash flow"

FM – L2 – Q82 – Discounted Cash Flow

Calculate NPV of a project with given cash flows and 10% cost of capital, and state if it should be undertaken.

You're reporting an error for "FM – L2 – Q82 – Discounted Cash Flow"

FM – L2 – Q78 – Discounted cash flow

Calculate NPV for Woodland Enterprises' new product investment with inflation and advise on project viability.

You're reporting an error for "FM – L2 – Q78 – Discounted cash flow"

FM – L2 – Q75 – Discounted cash flow

Calculate NPV to decide between maintaining old equipment or buying new equipment for Wisdom Ltd, using a 20% cost of capital.

You're reporting an error for "FM – L2 – Q75 – Discounted cash flow"

FM – L2 – Q74 – Discounted Cash Flow

Calculate NPV for TechNova Ltd's new game Zestora, considering sales, costs, and tax over four years.

You're reporting an error for "FM – L2 – Q74 – Discounted Cash Flow"

FM – L2 – Q72 – Discounted cash flow

Calculate NPV for two machines with given cash flows, tax, and capital allowances.

You're reporting an error for "FM – L2 – Q72 – Discounted cash flow"

FM – L2 – Q71 – Discounted Cash Flow

Calculate NPV for a project with GH₵3M equipment cost, 5-year cash flows, and 8% cost of capital, ignoring inflation and taxation.

You're reporting an error for "FM – L2 – Q71 – Discounted Cash Flow"

FM – L2 – Q69 – Discounted cash flow

Calculate NPV of replacing Product X with Product Y using DCF analysis, with given sales, costs, and 8% cost of capital.

You're reporting an error for "FM – L2 – Q69 – Discounted cash flow"

FM – L2 – Q68 – Discounted Cash Flow

Calculate the expected NPV of a new product launch for Accra Nova Cosmetics Limited with given cash flows and a 12% cost of capital.

You're reporting an error for "FM – L2 – Q68 – Discounted Cash Flow"

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