Would the project be worth undertaking

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Reference no: EM133925758

Problem

Bernardi Ltd is considering a major investment in new machinery producing plastic dolls. The company has already spent £10,000 to do market research on what type of dolls children like to play with. If the project goes ahead, an investment in machines of £1,000,000 will need to be made immediately (Year 0). The project will generate net cash flows before tax to the tune of £300,000 per annum for the next 6 years (Years 1-6). These cash flows will be taxed at a rate of 25%. The machinery will be sold off at the end of the project (Year 6) for a projected price of £500,000. The proceeds from the sale will also be subject to taxation at the 25% rate. Assume that there are no capital allowances (also known as depreciation allowances).

1) Calculate the after-tax free cash flows in years 0 to 6.

2) What is the payback period (to the nearest month)? Get the instant assignment help.

3) What would the net present value (NPV) be if the discount rate was 10%? Would the project be worth undertaking?

4) How would the NPV change if we increased the discount rate to 20%? Would your decision whether to go ahead with the project be different?

5) Given the results from points (3) and (4), use the interpolation model to calculate the internal rate of return (IRR).

6) In your opinion, is the payback period or the NPV better as an investment appraisal technique? Explain why.

7) Some of the accountants at Bernardi Ltd think that part of the pre-existing corporate administrative costs should be apportioned to the project for accounting.

Reference no: EM133925758

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