Question

CASE 4 - CASE STUDY - INTERNATIONAL BUSINESS SCHOOL A Business School is considering investing in its own transport feet (School buses). Currently, the transportation has been contracted to an outside organization. The initial cost of the transport fleet would be AED 1,500 000 and also require AED 275,000 investment in working capital The life of the transport fleet would be 8 years, after which time the vehicles would have to be scrapped with no salvage value, at the end of 8 years, using the Straight Line method. The management has come up with the following Revenues and Cost data for the next 8 years. Sales to 5 Will amount to AED 210,000 for the next four years and then increase to AED 290,000 for the last four years. To raise funds for the project your company is proposing to raise a long-term loan at 10% interest rate per annum. You are told that there is an altemative project that could be invested in using the funds which has the following projected results: Payback period = 7 years • Net present value = AED 245,000 As funds are limited, investment can only be made in one project. Decide which project you will choose and why?

Answer 1

Solution :-

Cost of Fleet = 1,500,000

As there is no tax so no need to do treatment of depreciation , As no benefit of tax on dep as tax rate assume to be Zero .

A в с I 1 Solution :- 3 1 2 3 56 7 8 ($1,500,000.00) ($275,000.00) $210,000.00 $210,000.00 $ 210,000.00 $210,000.00 $290,000.00 $290,000.00 $290,000.00 $375,000.00 $290,000.00 $275,000.00 4 Year 5 Initial Investment 6 Working Cap Invested 7 Annual Savings 8 Add:- Working Cap Recovery 9 10 Net Cash Flow After Tax 11 PVF @ 10% 12 13 Present Value of Cash flows ($1,775,000.00) 1.000 $210,000.00 0.909 $210,000.00 0.826 $210,000.00 0.751 $210,000.00 0.683 $290,000.00 0.621 $290,000.00 0.564 $290,000.00 0.513 $565,000.00 0.467 ($1,775,000.00) $190,909.09 $173,553.72 $157,776.11 $143,432.83 $180,067.18 $ 163,697.44 $148,815.85 $263,576.67 14 ($353,171.11) 15 Net Present Value = 16

The NPV of this project is Negative so no need to choose this project on the basis of NPV

1 Solution Years Cashflows ($1,775,000.00 $210,000.00 $210,000.00 $210,000.00 $210,000.00 $290,000.00 $290,000.00 $290,000.00 $565,000.00 Cumm Cashflows ($1,775,000 ($1,565,000 ($1,355,000) ($1.145.000 ($935,000) ($645,000) ($355,000) ($65,000) $500,000.00 8 14 15 | 16 As the Cashflow Becomes positive between year 7 and 8 17 So the Payback Period is between year 7 and 8 18 19 Payback Period = 7 +(65000 / 565000 )*1 7.115 Years

As the payback period of this project is more than the other project so reject this project

As Payback Period is lower the better