Mr. Imran wants to establish a business of manufacturing spare parts of 70cc motorcycle. He estimates a start-up cost of business with heavy machinery of worth Rs. 30 million. He further projects that the revenue (before tax and depreciation) from the business will be Rs. 8 million for the first year and it will keep on growing at a rate of 4% annually up to year 6.
Some other information regarding the project is as follows:
The machinery is fully depreciated under the straight line method till the end of year 6.
Cost of capital is 8% while the tax rate is 40%.
As per an estimate, the machinery dismantling and the site restoration would require an outlay of Rs. 5 million; while the machinery would not be able to fetch any sale price.
Being a financial consultant of Mr. Imran, you have to conduct a feasibility analysis for his project. You have to suggest Mr. Imran about the viability of the project after performing different Capital Budgeting techniques.
Keeping your task into consideration, provide answers to the following:
1. Calculate projected net cash flows for 6 years. (10 Marks)
2. Evaluate the project by using the following capital budgeting techniques:
a. Payback Period (The desired payback period is 4 years) (04 Marks)
b. Net Present Value (8 Marks)
c. Profitability Index (03 Marks)
3. Comments if there is any difference in the results among the above used techniques? Would you recommend Mr. Imran to start his business based upon your analysis? (05 Marks)
Special Note: Complete calculations are required for Part (1) and Part (2). Incomplete calculations will result in loss of marks.