The directors of ALUN Ltd are currently considering two mutually exclusive investment projects. Both projects are concerned with the purchase of new plant. The following data are available for each project: Project 1 Project 2 £000 £000 Cost (immediate outlay) 130 70 Expected annual operating profit (loss): Year 1 38 20 Year 2 -1 -3 Year 3 6 15 Estimated residual value of the plant 10 10 The business has an estimated cost of capital of 10 per cent. It uses the straight-line method of depreciation for all non-current assets when calculating operating profit. Neither project would increase the working capital of the business. The business has sufficient funds to meet all capital expenditure requirements. Required: a) Calculate the net present value and the approximate internal rate of return for each project, and recommend which of the two investment projects the directors of ALUN Ltd should accept and why. b) Discuss problems faced by managers in capital budgeting process.
The directors of ALUN Ltd are currently considering two mutually exclusive investment projects. Both projects are concerned with the purchase of new plant. The following data are available for each project:
|
|
Project 1 |
Project 2 |
|
|
£000 |
£000 |
|
Cost (immediate outlay) |
130 |
70 |
|
Expected annual operating |
|
|
|
Year 1 |
38 |
20 |
|
Year 2 |
-1 |
-3 |
|
Year 3 |
6 |
15 |
|
Estimated residual value of the plant |
10 |
10 |
The business has an estimated cost of capital of 10 per cent. It uses the straight-line method of
Required:
a) Calculate the
b) Discuss problems faced by managers in capital budgeting process.
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