ASSIGNMENT 02

NAME: MUHAMMAD SAAD ASIF

STUDENT ID: 11058
COURSE: FINANCIAL MANAGEMENT
Q1.

CB Investment Limited (CBIL) has identified various projects for investments. Details of the
projects are as follows:

Other relevant information is as follows:

(i) Project A and B are mutually dependent and are non-divisible.
(ii) Project C can be scaled down but cannot be scaled up.
(iii) Project D, E and F are mutually exclusive. They cannot be scaled down but can be scaled up.
Total financing available with the company is Rs. 1,000 million. It may be assumed that all cash
flows would arise at the beginning of the year.

Required:
Determine the most beneficial investment mix.

A B C D E F

project duration 4 5 3 6 3 2
forecasted net cash inflow start from year 1 2 1 3 1 1
discounted rate 10% 11% 12% 11% 13% 14%

Annuity factor for total period 3.487 4.102 2.69 4.696 2.668 1.877
less: Annuity factor for zero cash inflow period -1 -1.901
Adjust annuity factor 3.487 3.102 2.69 2.795 2.668 1.877

Forecasted annual net cash inflow 150 50 140 256 440 300
1173.9
Present value of inflows 523.05 155.1 376.6 715.52 2 563.1

1173.9
Adjustment for mutually compulsory Projects 678.15 678.15 376.6 715.52 2 563.1
Less: Initial investment required today -300 -120 -240 -512 -800 -400

Adjustment For mutually compulsory project

(A) -420 -420 -240 -512 -800 -400
Net present value (B) 258.15 258.15 136.6 203.52 373.92 163.1
- - -
0.6146428 0.6146428 0.5691 - -
Profitability Index ( c ) (B/A) 6 6 7 0.3975 -0.4674 0.40775
Ranking 1 1 2 5 3 4

Q2

Beta Limited (BL) is engaged in the business of manufacturing and marketing of high-quality
plastic products to the large departmental stores in Pakistan and United Arab Emirates. BL is
presently experiencing a decline in sales of its products. Market research carried out by the
Marketing Department suggests that sustained growth in sales and profits can be achieved by
offering a wide range of products rather than a limited range of quality products. In this regard,
BL is considering the following two mutually exclusive options:

Option I: Introduce low quality products in the market

Following information has been worked out by the Chief Financial Officer of the company:

Option II: Import variety of plastic products from China

BL would buy in bulk from Chinese suppliers and sell it to the existing customers. The projected
net
cash flows at current prices after acceptance of this option are as follows:

The following information is also available:

(i) The current spot rate is Re. 1=US$ 0.0111.
(ii) BL evaluates all its investment using nominal rupee cash flows and a nominal discount rate.
(iii) Inflation in Pakistan and USA is expected to be 10% and 3% per annum respectively.
Tax may be ignored.
Required:
Evaluate the two options using net present value, discounted payback period, internal rate of
return and modified internal rate of return. Give brief comments on each of the above methods of
evaluation and their relevance in the given situation. For the purpose of evaluation, assume that
BL has a four-year time horizon for investment appraisal.

Net Present value at discount rate of 13% 8.2 Million

Discounted Payback Period 3.1 Year
IRR 10.50%
MIRR 13.20% approx

$us as nominal cash flow in

rupees
Year 0 Year 1 year 2 Year 3 Year 4

Exchange rate forecasted (P.Y*1.03/1.10) (A) 0.0111 0.010394 0.009732 0.009113 0.008533

US Net cash flow at current price -25 2.47 2.82 2.9 2.7
US Net cash flow at current price @ 3% inflation
(B) -25 2.54 2.99 3.17 3.04
us nominal cash flow (B/A) -2252.25 244.3803 307.2268 347.8585 356.2644

Net Present Value

Year 0 Year 1 year 2 Year 3 Year 4

Pak nominal cash flow -2252.25 244.3803 307.2268 347.8585 356.2644

Pak nominal cash flow @ 10% Inflation 366.3 423.51 551.03 658.85

Total nominal cash flow -2252.25 610.6803 730.7368 898.8885 1015.114

Discounted factor at 13% 1 0.884956 0.783147 0.69305 0.613319

Present value -2252.25 540.425 572.2741 622.9748 622.5887

NPV $106.01

DISCOUNTED PAY BACK

Year 0 Year 1 year 2 Year 3 Year 4

PRESENT VALUE OF CASH FLOW IN MILLIONS -2252.25 540.425 572.2741 622.9748 622.5887
CUMMULATIVE DISCOUNTED CASH FLOW -2252.25 -1711.827 -1139.55 -516.578 106.0104

Discounted payback period 3+516.578/622.9748

Discounted payback period 3+0.82921
 Discounted payback period 3.82921

Internal Rate of Return

Total nominal cash flow -2252.25 610.6803 730.7368 898.8885 1015.114

Discounted Factor at 16% 1 0.862069 0.743163 0.640658 0.552291
Present value -2252.25 526.4485 543.0565 575.8798 560.6387

NPV -46.2265

IRR 15%

MIRR (PVr/Pvi)^1/n*(1-r)-1
Where:
PVr 2365.13
Pvi -2252.25
Re 13%

MIRR 14%

Q3

Kohat Limited (KL) is considering to set-up a plant for the production of a single product
IGM3. The initial capital investment required to set up the plant is Rs. 15 billion. The
expected life of the plant is only 5 years with a residual value of 20% of the initial capital
investment. The plant will have an annual production capacity of 1.0 million tons.

A local group has offered to purchase all the production for Rs. 8,000 per ton in year 1 and
thereafter at a price to be increased 5% annually. Other relevant information is as under:

(i) In year 1, operating costs (other than wages and depreciation) per annum would be Rs.
2,000 per ton. They are expected to increase in line with Producer Price Index (PPI).
Annual wages would be Rs. 1.0 billion and are linked to Consumer Price Index (CPI).

(ii) KL’s cost of capital for this project, in real terms is 6%. General inflation rate is 11%.

(iii) The tax rate applicable to the company is 30% and the tax is payable in the same year.

The company can claim normal tax depreciation at 20% per annum under the reducing
balance method.

Price indices of the last six years are given below:

Year 2013 2014 2015 2016 2017 2018
PPI 107 119 130 142 160 175
CPI 112 125 139 155 173 195

The costs linked to the above indices are expected to grow at their historic compound
 annual growth rate.

Required:
Advise whether KL should invest in the project.

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5

Investment -15,000
Revenue (8,000* 1M) Inc 5% =400 ANU 8,000 8,400 8,800 9,200 9,600
400
Operating cost (Ex wages) 10.34% -2,000 -2,207 -2,414 -2,620 -2,207
-206.8
Operating cost of wages 11.73% -1,000 -1,117 -1,235 -1,352 -1,469
-117.3

Profit before taxation 5,000 5,076 5,152 5,228 5,924

Residential Value @ 15000*20% 3,000

Tax @ 30% ( C ) -600 -802.8 -965.1 -1093.2 -617.1

Net Inflow 4,400 4,273 4,187 4,135 8,307

0.85178 0.52641
Discounted Factor (D ) 1 9 0.725544 0.61801 4 0.448394
3747.87
-15,000 1 3100.322 2587.424 2176.46 3367

NPV -21
A: Compound annual growth for CPI

CAGR for CPI 75/107 = (1+i) ^5

(1.6355)^1/5=1+
i
1+i=1.1034
I 10.34%

B: Compound Annual Growth for PPI

CAGR FOR PPI 195/112=(1+i)^5

(1.7411)^1/5= 1+i
i-1 1.1173
I 11.73%

C: Tax Computation
Year 1 Year 2 Year 3 Year 4 Year 5
Profit before taxation 5,000 5,076 5,137 5,180 5,201
Depreciation -3000 -2400 -1920 -1536 -1229
Loss on disposal -1915
Taxable profit/ loss 2,000 2,676 3,217 3,644 2,057

Tax @ 30% 600 802.8 965.1 1093.2 617.1

( D ): Nominal Return

Discounted Rate=Required return nominal

1+nominal return=(1 + real return) * (1 + Inflation)
(1+ 6%)*(1+11%)
117.66%
17.70%

Q4

Lobers, Inc., has two investment proposals, which have the following characteristics:

For each project, compute its payback period, discounted payback, IRR, MIRR, net present
value, and its profitability index using a discount rate of 15 percent.

Project A
Discount @ 15%
Cum
Years Cost Profit Aft tax Net Cash flow PVIF DCF DCF
0 -9000 1 -9000 -9000
1 1000 5,000 0.869565217 4347.82609 5,000
2 1000 4,000 0.756143667 3024.57467 9,000
3 1000 3,000 0.657516232 1972.5487 12,000

NPV 344.949453

Discount @ 20
Cum
Years Cost Profit Aft tax Net Cash flow PVIF DCF DCF
0 -9000 1 -9000 -9000
-
1 1000 5,000 0.833333333 4166.66667 4833.33
-
2 1000 4,000 0.694444444 2777.77778 2055.56
-
3 1000 3,000 0.578703704 1736.11111 319.444
 NPV -319.44444

IRR: Rate NPV

AT 15% 344.9495
AT R 0
20% -319.444

y-y1/y2-y1 = X-X1/X2-X1

R - 0.15/0.20-
0.15 0-344.9495/-319.444-344.9495

R - 0.15 -344.9495
0.05 -664.3935

R - 0.15 0.51919457
0.05
R -0.15 0.02595973
R 0.17595973

PAY BACK PERIOD

2 9000
X 0
3 12000

(X - 2)/ (3 - 2) (0+9000)/
= (9000+1200-)
X-2
= 9000
21000
X-2
= 0.42857143
X
= 2.8251

PROFITIBALITY INDEX
PI = 1+344.45/9000
PI = 1+0.04
PI = 1.04

MIRR
(1 + MIRR)^4 = 12,000
9,000
( 1 + MIRR ) 1.33333333
 0.33333333
MIRR -66.67%

PROJECT B
Discounted @ 15%
Profit after DCF
Year COST tax Net cash flow PVIF Present Val Cum
0 -12,000 -12,000
1 1,000 5,000 0.869565217 4347.82609 5,000
2 4,000 5,000 0.756143667 3780.71834 10,000
3 4,000 8,000 0.657516232 5260.12986 18,000

NPV 1,389

Discounted @ 28%
Profit after DCF
Year COST tax Net cash flow PVIF Present Val Cum
0 -12,000 -12,000
1 1,000 5,000 0.78125 3906.25 5,000
2 4,000 5,000 0.610351563 3051.75781 10,000
3 4,000 8,000 0.476837158 3814.69727 18,000

NPV -1,227

IRR:
15% 1,389
X 0
28% -1,227

X - 15%
= 0 - 1,389
28% - 15% -2616

X - 0.15
= 0.5309633
0.13
X - 0.15
= 0.06902523
X 0.21902523
X 21.90%

PAY BACK PERIOD

2 10,000
X 0
3 18,000

X-2 = 10,000/28,000
 X -2 = 0.357142857
x = 2.357142857

Profitability Index
PI = YEAR (1 +2+3)/ Year 0
PI = 13388.67428
12,000
PI = 1.115722857

MIRR
28,000/( 1 + MIRR )
^4 12,000
(1+MIRR) ^4 12,000
28,000
(1+MIRR) ^4 0.428571429
1 + MIRR -0.10714275

MIRR 0.89285725

Q5 & Q6
Problems 10-11 to 10-12 of the textbook

(10-11)

Your company is
considering two mutually
exclusive projects, X and
Y, whose costs and
cash flows are shown
below:
Project X
Dis @ 12%
Years Cash Flow PVIF DCF DCF CUM
0 -5,000 1 -5000 -5000
1 1,000 0.89285714 892.857143 -4107.14
2 1,500 0.79719388 1195.79082 -2911.35
3 2,000 0.71178025 1423.5605 -1487.79
4 4,000 0.63551808 2542.07231 1054.281
 NPV 1054.28077

MIRR 17%

Dis @ 24%
Years Cash Flow PVIF DCF DCF CUM
0 -5,000 1 -5000 -5000
1 1,000 0.80645161 806.451613 -4193.55
2 1,500 0.6503642 975.546306 -3218
3 2,000 0.52448726 1048.97452 -2169.03
4 4,000 0.4229736 1691.89439 -477.133

x-12% = -1054.281
24%-12% -1531.414

X - 12% = 0.68843631
12%
X - 12% = 0.08261236
X = 0.20261236
X = 20%

Project Y
Year Cash Flow PVIF DCF DCF CUM
0 -5,000 1 -5000 -5000
1 4,500 0.89285714 4017.85714 -982.143
2 1,500 0.79719388 1195.79082 213.648
3 1,000 0.71178025 711.780248 925.4282
4 500 0.63551808 317.759039 1243.187

NPV 1243.18725

MIRR 18%
Discounted @ 40
Project Y
Year Cash Flow PVIF DCF DCF CUM
0 -5,000 1 -5000 -5000
 1 4,500 0.71428571 3214.28571 -1785.71
2 1,500 0.51020408 765.306122 -1020.41
3 1,000 0.36443149 364.431487 -655.977
4 500 0.2603082 130.154102 -525.823

X - 12% = -1243.1872
40% - 12% -1769.0098

X - 12% = 0.70275882
40% - 12%

X - 12% = 0.70275882
28.00%

X - 12% = 0.19677247
X = 0.31677247
X 32%

( 10 - 12 )
After discovering a new
gold vein in the Colorado
mountains, CTC Mining
Corporation
must decide whether to
go ahead and develop the
deposit. The most cost-
effective method of
mining gold is sulfuric acid
extraction, a process that
could result in
environmental damage.

Purchase
Price 900,000
Installation 165,000
1,065,00
Initial 0

CUM.DC
Year Cash flow PVIF DCF F
-
1,065,00 -
0 0 1 -1065000 1065000
0.87719298
1 350000 2 307017.5439 -757982
0.76946752
2 350000 8 269313.635 -488669
0.67497151
3 350000 6 236240.0307 -252429
0.59208027
4 350000 7 207228.0971 -45200.7
0.51936866 136578.
5 350000 4 181779.0325 3

NPV 136578.3391

IRR 19.22%

B)
Ignoring environmental
concerns, the project should
be undertaken because
its NPV is positive and its
IRR is
 greater than the firm’s cost of
capital.

C)
You might have to factor
in any litigation or repair
that is either required
(legally) or should be
done (for PR
purposes). This could add
another cost factor into
the equation of whether
this project is profitable.

Q7
Mini case on Page 478 of the textbook

Data:
Approximately cost 200,000
Shipping Charges 10,000
Installment 30,000
total basis 240,000
Salvage Value 25,000

b. Disregard the assumptions

in part a. What is Shrieves’s
depreciable basis? What are
the annual depreciation
expenses?
Year Rate * Basis = Depreciation
1 0.33 240,000 79200
2 0.45 240,000 108000
3 0.15 240,000 36000
 4 0.07 240,000 16800

3c.
Calculate the annual sales
revenues and costs (other
than depreciation). Why is
it important to include
inflation when estimating
cash flows?
inflation Year1 Year2 Year3 Year4
Unit 1,250 1,250 1,250 1,250
sale per Unit 6 200 206 212 218
Cost Per Unit 3 100 103 106 109

Sales 250000 257500 265000 272500

Costs 125000 128750 132500 136250

Here are the annual

operating cash flow
s (in thousands of dollars):
Year 1 Year 2 Year 3 Year 4
Net Revenue 1250 1250 1250 1250
Depreciation 79200 108000 36000 16800
Profit before Taxation -77950 -106750 -34750 -15550
Tax @ 40% -31180 -42700 -13900 -6220

Net Income -46770 -64050 -20850 -9330

Plus Depreciation 79200 108000 36000 16800
Net operating CF   32430 43950 15150 7470

4d.
Construct annual
incremental operating cash
flow statements.
Year 1 Year 2 Year 3 Year 4
Sales 250000 257500 265000 272500
Cost 125000 128750 132500 136250
 Depriciation 79200 108000 36000 16800

EBIT 45800 20750 96500 119450

Tax @
40% 18320 8300 38600 47780

NOPAT 27480 12450 57900 71670

Depreciation 79200 108000 36000 16800

Net Operating 106680 120450 93900 88470

E) Estimate the required net

operating working capital for
each year, and the cash
flow due to investments in
net operating working
capital.
year 0 Year 1 Year 2 Year 3 Year 4

NOWC( % OF SALE) 30,000 30,900 31,827 32,783 0

3% increase per year -30,000 -900 -927 -956 32,783

f.
Calculate the after
tax salvage cash flow.

Salvage Value 25,000

Tax On salvage value -10,000
after tax Salvage value 15,000

g.
Calculate the net cash flows
for each year? Based on
these cash flows, what are
the project’s NPV, IRR, MIRR,
and payback? Do these
indicators suggest that
the project should be
undertaken?

Net cash flow

Year 0 Year 1 Year 2 Year 3 Year 4

Cash flow -240,000 106680 120450 93900 88470
NOWC -30,000 -900 -927 -956 32,783
Salvage value 15,000

Net cash flow -270,000 105,780 119,523 92944 136,253

Dis @
PVIF 1 0.909090909 0.826446 0.751314801 0.683013 10%
DCF -270000 96163.63636 98779.34 69830.20285 93,063
CUM. DCF -270000 -173836.3636 -75057 -5226.82194 87,836

NPV: 87,836
Dis @ 10%

Net cash flow -270,000 105,780 119,523 92944 136,253

PVIF 1 0.8 0.64 0.512 0.4096
DCF -270000 84624 76494.72 47587.328 55,809
CUM. DCF -270000 -185376 -108881 -61293.952 -5,485

NPV: -5,485
Dis @ 25%

IRR:
10% 87,836
X 0
25% -5,485

X - 10% = -87,836
25% - 10% -93,321

X - 10% = 0.941224
15%

X - 10% = 0.141184
X = 24%
 MIRR
( 1 + MIRR )^4 -3.07392
-0.76848

PAY BACK PERIOD:

2 -75057.0248
X 0
3 -5,227

X-2 = 75057.02479
69,830

x-2 = 1.07485357

X 3.07485357

Q8 to Q10

Problems 12-8, 12-9 of the textbook & Mini case on Page 516