Assessment 3: Business Case Study 2 Due date: 7 January 2019, 11 PM This assignment is worth 25% of...

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Assessment 3: Business Case Study 2 Due date: 7 January 2019, 11 PM This assignment is worth 25% of the overall mark for this unit. It focuses on content from weeks 6, 7 and 8. It is worth 25 marks...

Assessment 3: Business Case Study 2

Due date: 7 January 2019, 11 PM

This assignment is worth 25% of the overall mark for this unit. It focuses on content from weeks 6, 7 and 8. It is worth 25 marks and will be marked according to the rubric provided. The assignment consists of a word document that should not exceed 1,000 words (excluding the reference list), and a spreadsheet. You must submit both files.

The assignment is based on the hypothetical case information below.

Pinto Limited has recently been subject to significant competition from overseas manufacturers with much lower costs. To combat this, Pinto is considering a project that will see it move into a new product market considered riskier than its current operations. The CEO has asked you to undertake a financial analysis of the proposed project using the details presented below and outline your recommendations in a short report. As part of your financial analysis you will calculate NPV, IRR, payback period, discounted payback period and profitability index.

The project requires an upfront investment in plant and equipment of $15 million, which will be depreciated on a straight-line basis over the five-year life of the project. The equipment is not expected to have any significant salvage value at the end of its depreciable life.

Pinto paid $25,000 in fees to consultants for a market analysis related to the project. This analysis predicted sales volume of 200,000 units in the first year, which would grow by 50% per year in years two and three, and fall by 50% in each remaining year as demand wanes. Selling price in the first year is expected to be $75 and grow by 3% each year after that.

Pinto’s operations manager has estimated that the cost of goods sold for the project will equal 60% of sales revenues and selling, general and administrative expenses directly related to the project (excluding depreciation) will be $1 million in the first year and increase by 5% per year thereafter. The operations manager has not included in his estimates any cost for a project operations base because the plan is to use a building the company already owns. Currently Pinto rents this building to another company for $250,000 per year.

The project will require an upfront investment in net working capital equal to 20% of the year 1 sales revenue forecast. This investment in working capital will be fully recovered at the end year 5.

The company has a 10% weighted average cost of capital and is subject to a 30% tax rate.

Required:

The CEO has asked you to;

1. Model the base case of the proposed project using the facts detailed above in a spreadsheet (please use the template provided) and three sensitivities

2. Prepare a report for Pinto’s CEO which

a. Explains the project evaluation methods used and any assumptions you have made,

b. Provides a risk assessment of the project based on the base case and the three sensitivities that you have modelled; you need to evaluate the impact on the project feasibility of the sensitivities that you have modelled

c. Provides a recommendation on whether or not to proceed with the proposed project. Your recommendation needs to be supported by the base case model and the sensitivities that you have modelled as part of your risk assessment

Answered Same DayDec 13, 2020ACC00716Southern Cross University

Aarti J · Accepted Answer

Task 2 base case
	Case study 2, Task 2
	Base case
	General assumptions
	Initial (depreciable) investment	$15,000,000
	Asset life in years	5
	Straight line depr'n per year	$3,000,000
	Industry total unit sales year 1	200,000
	Growth in sales volume years 2 and 3	50%
	Growth in sales volume years 4 and 5	-50%
	Selling price year 1	$75
	Growth in selling price per year from year 2	3%
	Production costs as % of selling price	60%
	Growth in SG&A per year from year 2	5%
	Income tax rate	30%
	Discount rate	10%
	Sales data		0	1	2	3	4	5
	Sales price per unit			$75.00	$77.25	$79.57	$81.95	$84.41
	Sales volume in units			200,000	300,000	450,000	225,000	112,500
	Net income		0	1	2	3	4	5
	Revenues			$15,000,000	$23,175,000	$35,805,375	$18,439,768	$9,496,481
	– Cost of goods sold			$9,000,000	$13,905,000	$21,483,225	$11,063,861	$5,697,888
	– SG&A expenses			$1,000,000	$1,050,000	$1,102,500	$1,157,625	$1,215,506
	– Depreciation expense			$3,000,000	$3,000,000	$3,000,000	$3,000,000	$3,000,000
	Taxable income			$2,000,000	$5,220,000	$10,219,650	$3,218,282	-$416,914
	– Taxes			$600,000	$1,566,000	$3,065,895	$965,485	-$125,074
	After-tax income			$1,400,000	$3,654,000	$7,153,755	$2,252,798	-$291,840
	Working Capital		0	1	2	3	4	5
	Net working capital		$1,500,000	$1,500,000	$1,500,000	$1,500,000	$1,500,000	$0
	Annual Net Cash Flow Estimates		0	1	2	3	4	5
	Investment in fixed assets		-$15,000,000	$0	$0	$0	$0	$0
	CF due to change in net working capital		-$1,500,000	$0	$0	$0	$0	$1,500,000
	Opportunity cost of lost rental (after tax)			-$175,000	-$175,000	-$175,000	-$175,000	-$175,000
	Net income		$0	$1,400,000	$3,654,000	$7,153,755	$2,252,798	-$291,840
	Add back depreciation (non-cash expense)		$0	$3,000,000	$3,000,000	$3,000,000	$3,000,000	$3,000,000
	Net cash flows during forecast period		-$16,500,000	$4,225,000	$6,479,000	$9,978,755	$5,077,798	$4,033,160
	NPV 		$6,165,120
	Cumulative cash flows		($16,500,000)	($12,275,000)	($5,796,000)	$4,182,755	$9,260,553	$13,293,713
	Discounted cash flow (PV)		($16,500,000)	$3,840,909	$5,354,545	$7,497,186	$3,468,204	$2,504,275
	Cumulative discounted cash flow		($16,500,000)	($12,659,091)	($7,304,545)	$192,641	$3,660,845	$6,165,120
	Payback period		3.23	years
	Discounted payback period		2.97	years
	Profitability index		1.37
	IRR		23.7%
Sensitivity 1
	Case study 2, Task 2
	Best case, increase in 10% of first year sales from the base case
	General assumptions
	Initial (depreciable) investment	$15,000,000
	Asset life in years	5
	Straight line depr'n per year	$3,000,000
	Industry total unit sales year 1	220,000
	Growth in sales volume years 2 and 3	50%
	Growth in sales volume years 4 and 5	-50%
	Selling price year 1	$75
	Growth in selling price per year from year 2	3%
	Production costs as % of selling price	60%
	Growth in SG&A per year from year 2	5%
	Income tax rate	30%
	Discount rate	10%
	Sales data		0	1	2	3	4	5
	Sales price per unit			$75.00	$77.25	$79.57	$81.95	$84.41
	Sales volume in units			220,000	330,000	495,000	247,500	123,750
	Net income		0	1	2	3	4	5
	Revenues			$16,500,000	$25,492,500	$39,385,913	$20,283,745	$10,446,129
	– Cost of goods sold			$9,900,000	$15,295,500	$23,631,548	$12,170,247	$6,267,677
	– SG&A expenses			$1,000,000	$1,050,000	$1,102,500	$1,157,625	$1,215,506
	– Depreciation expense			$3,000,000	$3,000,000	$3,000,000	$3,000,000	$3,000,000
	Taxable income			$2,600,000	$6,147,000	$11,651,865	$3,955,873	-$37,055
	– Taxes			$780,000	$1,844,100	$3,495,560	$1,186,762	-$11,

Assessment 3: Business Case Study 2 Due date: 7 January 2019, 11 PM This assignment is worth 25% of the overall mark for this unit. It focuses on content from weeks 6, 7 and 8. It is worth 25 marks...

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