The managing director of Christine plc, a company which specialises in acquiring small businesses, has considered the following potential investments. Only one of these investments can be undertaken as a result of a shortage of investment funds at Christie plc.
Business A Business B
Estimated life 5 years 3 years
Initial Cash Outflow (1,000,000) (800,000)
Net Cash Inflows, end
Year 1 200,000 300,000
Year 2 200,000 300,000
Year 3 200,000 400,000
Year 4 300,000
Year 5 300,000
Year 6 400,000
Disposal receipts from each of these businesses have been included in the final year cash inflows in both cases.
The cost of capital for Christie plc has been estimated at 12%.
a) Use the Net Present Value method to analyse the potential investments in Business A and Business B and make justifiable decisions.
b) Use the payback method to analyse Business A and Business B and justify your decisions.
c) How would your decisions change on Business A and Business B if the net cash inflows for Business A were £200,000 throughout the six year period and also the net cash inflows for Business B were £300,000 throughout the three year period