Question

The management of Sugar Daddy Cupcakes are analyzing two competing investment projects and must decide which one should be done immediately and which one to postpone for at least a year. The details of each proposed investment are provided below.

The company has a 12% required rate of return to evaluate all investments that directly impact operations and amortizes the investment in plant and equipment using straight-line depreciation over 10 years. The company’s tax rate is 25%. The CCA rate is 20%.

The following data on the two options are available:

	Increase Capacity to Serve New Markets	Upgrade Customer Service
Proposed by	Production manager	Sales and marketing manager
Rationale	Assets are operating at full capacity and we are unable to attend to all the demand, therefore we need to expand our facilities to produce more kilograms	The fleet of trucks and vans need to be upgraded with tracking devices and remote connections to plan routes. The new software will allow the company to be paperless and respond faster to customers’ requests
Investment	$600,000	$345,000
Working capital	$50,000	$150,000
Disposal value	$60,000	0
Useful life	10 years	5 years
Expected increase in operating income prototype chip	$400,000	$100,000
Expected savings in administrative costs	0	$40,000

Required

1. Calculate the NPV for each proposal.
2. Which proposal should the company implement immediately on the basis of the NPV calculations?

Answer 1