AFM module – 3
1. An inventory management system will cost Rs. 1 crore. It will be depreciable
on SLN basis for 5 years which Is its useful life. At the end of 5th year, it can
be disposed for Rs.20 lakhs. This system will annually save Rs.30 lakhs
before dep and tax. The tax rate is 30% and the system will require Rs. 10
lakhs initially as working capital. assuming 10%, on cost of capital calculate
the net investment, net annual cash flows, terminal cashflow & NPV of this
project.
2. XYZ ltd is considering introduction of new product the firm estimates that it
can sell annually 5000 units of a product at Rs. 20/ unit. the cash variable
expenses to manufacture and sell the product are estimated at Rs.12 /unit. It
will also involve fixed cost of Rs.5000/ annum. The Plant to manufacture the
product is available for Rs.100,000. further Rs. 20,000 will be needed for
installation of the machinery. The salvage value of the plant after its life of
10 years is estimated to be Rs.5000. The working capital investment of
Rs.30,000 would be required in the year during the installation of the plant.
The firm uses Straight line method of depreciation on original cost of the
assets, ignoring salvage value of fixed asset. Assuming the tax rate to be 50%,
you are required to calculate, initial investment, ACF And TCF.
3. Abc ltd is considering computerizing the ordering & billing procedures. It
estimates annual savings from this effort to include:
A Reduction of 10 clerical employees with annual salaries of Rs.15000 each
Rs. 8000 from reduced production delays caused by Inventory problems
Rs.12000 from cost sales due to inventory issues and, Rs.3000 on timely
billing [Link] Purchase price of this system will be 2 lakhs with an
installation cost of 50,000 . Depreciation will be on SLN basis with a salvage
basis. The new system requires 2 computer specialists with annual salary of
Rs. 40,000 each . The tax rate is 40% and the cost of capital is 12%. Decide
whether the project has to be accepted or not (using NPV technique). The life
of machine is 5 years.
4. Swasthik Limited manufactures special purpose machine rods. It has two
divisions that are periodically assisted by visiting teams of consultancy. The
management is worried about the steady increase of expenses in this regard
over the years. An analysis of last year expenses show:
● Consultancy remuneration – Rs 250000
● Travel and conveyance – Rs 150000
● Accommodation – Rs 600000
● Boarding charges – Rs.2,00,000
● Special allowances – Rs 50000
The management estimated accommodation expenses to increase by 200000
annually. As a part of cost reduction trial, Swasthik limited is proposing to
construct a consultancy center to take care of accommodation requirements
of the constancy. The center will additionally save the company Rs 50000 in
boarding charges and Rs 200000 in the cost of executive training program
conducted every year. The following details are available regarding the
construction and maintenance of the new center.
● Land: Cost of Rs – 800,000 already owned by the company to be used.
● Construction cost Rs – 15,00,000
● Cost of annual maintenance – Rs -150,000.
● Construction cost will be written off over 5 years. [the used life of the project]
Assuming the write off of the construction cost will be accepted for tax
purpose where rate of tax is 50% and the desired rate of return is 15%. You
are required to analyze the feasibility of the proposal and make
recommendations.
5. Company D Ltd has under review a project involving a cash outlay of
Rs.55000 and expected to yield the following net cash sales in current terms.
years savings
1 10,000
2 20,000
3 30,000
4 15,000
The company’s cost of capital incorporating a requirement for growth in
dividends to keep pace with inflation is 20%. This is issued for the purpose
of investment appraisal on the above basis, the divisional manager has
recommended rejection of the proposal. In this regard, you role cast that the
rate of inflation is 15% for all the years. You are asked to analyze and
comment this recommendation.
6. XYZ Ltd is considering a new project which requires a cash outlay of Rs
1,50,000 and expected to yield the following net cash flow in current term
Year Cashflow
1 30,000
2 40,000
3 55,000
4 25,000
5 10,000
The company’s cost of capital with inflation is 20%. The company has
forecasted the role of inflation to be 15% for the first two years and 10% for
the subsequent years. Analyze and suggest whether to accept the project or
not.
7. The company is considering cost saving project. This involves purchasing
machinery of Rs 70,000 which results in annual saving of wage cost of Rs
10,000 and material cost of Rs.4,000. The following forecast are made at the
rate of inflation each year for the next 5 years. Inflation of wage cost is 10 %
P.A, Material cost 5 % P.A. The cost of capital to the company in monetary
terms (includes inflation) is 15%. Evaluate the project assuming the machine
has life of 5 years and no scrap value.
8. Abhi Industrial Lmt is expanding its operation and is amidst of replacing one
of its plant. This involves the original cost of Rs 15,00,000 and the salvage
value is 10% at the end of 6 years. The important data regarding the new
machine are as follows:
● Incremental revenue – Rs 500,000
● Fixed cost excluding depreciation is unchanged
● Variable costs – 30%
● Depreciation rate – 25%, written down value
Cost of old machine was Rs 10,00,000 and the life of machine was is 10 years
and it was depreciated at 25% WDV. This machine has remaining life of 6
years and it has salvage value if Rs 200,000 at present. Evaluate the
replacement decision given that the required rate of return is 10% and the rate
of tax is 30%
9. The new equipment cost is 500,000
Working capital is 60,000
Salvage value is 0
Expected life of the project is 5 years. Assume the company is allotted to
charge depreciation or straight-line basis. The estimated earnings before
depreciation and tax are given below.
year Cashflows
1 1,80,000
2 2,20,000
3 1,19,000
4 1,70,000
5 1,40,000
The applicable income tax rate of the company is 35%. The opportunity cost
of capital of the company is 10% . Calculate Average rate of return, IRR and
NPV.