soneeya1
Nov 2, 2009, 05:12 AM
Finance Management: Assignment 1
Capital Budgeting
Sporty Fashion Ltd (SF) is a local retailer and manufacturer of sports wear and sports gear. Due to the increased competition, SF is considering implementing the following 3 projects to upgrade and/or expand its current operations. SF has set aside $400,000 for investment in the new projects and wants to recover the initial cost of investment within 5 years. SF's cost of capital is 8%.
Project A: Introduction of a new trendy sport fashion line
After spending $100,000 in market research, SF intends to introduce a new trendy sport fashion line which will require an immediate investment of $50,000 in fashion designing and $250,000 to replace the old production machines. It will cost $25,000 to ship the new machines and another $30,000 for installation. SF will need to incur an annual cost of $18,000 to maintain the new machines (there is no such maintenance costs for the old machines, as it is almost obsolete and will be disposed of, if it should breakdown).
Project B: Establishment of an Online Store
Currently, SF retails its products through its retail stores. SF is looking at creating an online store which will reside on computer servers costing $75,000 purchased 3 months ago. There will be a development fee of $40,000 for establishing the online store.
Project C: Refurbishment of an existing building
SF intends to refurbish an existing building that it owns into a new flagship store for its operations. The cost of the refurbishment is expected to be $350,000. The existing building is currently rented to J'line Jewelry under a lease agreement that will run for another 5 years at an annual rental of $36,000. The lease can be cancelled by paying 3 months' rental now. If the refurbishment project goes ahead, the rental from J'line Jewelry will be foregone.
The above projects are expected to generate cash inflows for the next 5 years as shown in Table 1 below:
Table 1: Cash inflows projection for the 3 projects
Cash Inflows
Project A
New trendy sport fashion line
Year 1 Cash Flows 165,000
Year 2 Cash Flows 140,000
Year 3 Cash Flows 100,000
Year 4 Cash Flows 95,000
Year 5 Cash Flows 80,000
Project B
Retail stores without online store
Year 1 380,000
Year 2 420,000
Year 3 480,000
Year 4 560,000
Year 5 600,000
Retail stores with the online store
Year 1 385,000
Year 2 430,000
Year 3 493,000
Year 4 582,000
Year 5 628,000
Project C
New Flagship Store
Year 1 100,000
Year2 145,000
Year3 170,000
Year 4 155,000
Year 5 120,000
Whilst management is relatively confident about the cash flow projections above, they are also aware that unforeseen events such as global downturn and possible economic recession may impact the above projections.
In your paper, you have to:
1. Use the various investment evaluation methods, evaluate which project SF should implement to maximize the wealth of its shareholders based on the projected cash flows.
2. Justify your choice of evaluation methods and your recommendation.
3. Advise SF on the methods of better management of risks and uncertainties for such decision making purposes.
Capital Budgeting
Sporty Fashion Ltd (SF) is a local retailer and manufacturer of sports wear and sports gear. Due to the increased competition, SF is considering implementing the following 3 projects to upgrade and/or expand its current operations. SF has set aside $400,000 for investment in the new projects and wants to recover the initial cost of investment within 5 years. SF's cost of capital is 8%.
Project A: Introduction of a new trendy sport fashion line
After spending $100,000 in market research, SF intends to introduce a new trendy sport fashion line which will require an immediate investment of $50,000 in fashion designing and $250,000 to replace the old production machines. It will cost $25,000 to ship the new machines and another $30,000 for installation. SF will need to incur an annual cost of $18,000 to maintain the new machines (there is no such maintenance costs for the old machines, as it is almost obsolete and will be disposed of, if it should breakdown).
Project B: Establishment of an Online Store
Currently, SF retails its products through its retail stores. SF is looking at creating an online store which will reside on computer servers costing $75,000 purchased 3 months ago. There will be a development fee of $40,000 for establishing the online store.
Project C: Refurbishment of an existing building
SF intends to refurbish an existing building that it owns into a new flagship store for its operations. The cost of the refurbishment is expected to be $350,000. The existing building is currently rented to J'line Jewelry under a lease agreement that will run for another 5 years at an annual rental of $36,000. The lease can be cancelled by paying 3 months' rental now. If the refurbishment project goes ahead, the rental from J'line Jewelry will be foregone.
The above projects are expected to generate cash inflows for the next 5 years as shown in Table 1 below:
Table 1: Cash inflows projection for the 3 projects
Cash Inflows
Project A
New trendy sport fashion line
Year 1 Cash Flows 165,000
Year 2 Cash Flows 140,000
Year 3 Cash Flows 100,000
Year 4 Cash Flows 95,000
Year 5 Cash Flows 80,000
Project B
Retail stores without online store
Year 1 380,000
Year 2 420,000
Year 3 480,000
Year 4 560,000
Year 5 600,000
Retail stores with the online store
Year 1 385,000
Year 2 430,000
Year 3 493,000
Year 4 582,000
Year 5 628,000
Project C
New Flagship Store
Year 1 100,000
Year2 145,000
Year3 170,000
Year 4 155,000
Year 5 120,000
Whilst management is relatively confident about the cash flow projections above, they are also aware that unforeseen events such as global downturn and possible economic recession may impact the above projections.
In your paper, you have to:
1. Use the various investment evaluation methods, evaluate which project SF should implement to maximize the wealth of its shareholders based on the projected cash flows.
2. Justify your choice of evaluation methods and your recommendation.
3. Advise SF on the methods of better management of risks and uncertainties for such decision making purposes.