Question

Task #1: Multi-chem

Role and Context

You are a financial analyst in the capital projects department of Multi-chem, a speciality chemicals producer of fire-control chemicals, additives, and pesticides based in Queensland. Currently, Multi-chem is small in scale, but embarking on a rapid expansion and modernization program. It is also expanding its range of products into dyes, rubber compounds, and water treatment chemicals. While Multi-chem has a large and expanding capital budget, it is currently considering which of two possible projects it should invest in, both of which would be used to manufacture furfural (an organic compound derived from agricultural by-products) and furfural-based derivatives to make resins, urethanes, and refining solvents over a 10-year operating period.

Scenario

The first project, the Manila Plant, is a proposed new plant in the Philippines, about 30 km outside the capital. Multi-chem has been considering this expansion for a number of years and believes that the combination of low wages, looser environmental protection, and proximity to its emerging markets in SE Asia will makes this new plant an attractive addition to its existing facilities. Specifically, in 2020 the Manila Plant will require the purchase of land for $2.55 million, with development and construction building costs of $13 million, and plant and equipment of $6 million. Multi-chem will also need to spend on working capital each year. The change in net working capital is estimated to be 4% of sales every year during the life of the project (the exception being the last year of the project which reverses the sum of all previous cashflows due to working capital). Sales are estimated to be $48.6 million in 2021, the first year of production, increasing by 10% per annum after that. The cost of goods sold is 65% of sales. Fixed costs will be $11.5 million in 2021, increasing by 5% per year. Both buildings and plant/equipment will be depreciated straight line to zero over the 10-year project life. The buildings will have a salvage value of 20% of cost and the plant and equipment will have no salvage value. At the end of the project, Multi-chem will rehabilitate the site and sell the land for light industrial development for $18.1 million. Assume the company tax rate for income or capital gains in the Philippines is 25%.

The second project, the Townsville Plant, is a modification of an existing plant Multi-chem already owns in the city of the same name in north Queensland. The Townsville Plant has been idle for a number of years, but with renovation would be well suited to furfural production. If not used for the proposed project, Multi-chem will lease out the existing plant for $70,000 per year. The estimated development and construction building costs will be $15 million in 2020 alongside plant and equipment investment of $5 million. Multi-chem will again need to invest in working capital, thus the change in net working capital is estimated as 4% of sales every year (the exception being the last year of the project which reverses the sum of all previous cashflows due to working capital). Sales will be $45 million in 2021, increasing by 7% per annum thereafter. Given the relative geographic isolation of the plant and the stricter environmental controls given the proximity to the Great Barrier Reef, the cost of goods sold will be 75% of sales. Fixed costs will be $5 million in 2021, increasing by 5% per year. Both buildings and plant/equipment will again be depreciated straight line to zero over the 10-year project life. The buildings will have a salvage value of 30% of cost and the plant and equipment will have no salvage value. At the end of the project, the Townsville Plant will again revert to being idle awaiting potential future developments at no cost. Assume the company tax rate for income or capital gains in Australia is 30%.     

Task

Provide a report to Multi-chem’s CFO, Ms. Mary Miller, recommending which of these two mutually exclusive projects Multi-chem should invest in, if any. Your recommendation should be supported by appropriate calculations. Assume Multi-chem has a cost of capital of 12% for domestic projects and 16% for international projects.

Answer 1

Based on the given data, pls find below workings on both the Projects; Have considered NPV, IRR and Payback for these projects;

- Assumption: It is mentioned that the "Change" of working capital is 4% of sales; Hence, have considered the same as cash outflow in respective years of sales;

Based on the below, though the Payback period for both the projects are same, the NPV of Manila Plant Project is hgiher than that of Townsville Plant Project; Also, the IRR % of Manila Plant Project is higher than the other option; Hence, it is recommended to choose Investment in Manila Plant Project.

With SHOW FORMULA Option:

Year 2025 2021 2022 2023 2024 2026 2027 2028 2029 2030 Terminal 2020 -25,50,000 -1,30,00,000 -60,00,000 Currency in $ Manila Plant Cost of Land Development and Construction of Building Cost of Plant & Equipment Sale of Land - Terminal Year Sale of Land - Terminal Year - Taxable Value Salvage Value - Building Salvage Value - P&E Change in Working Capital @ 4% 1,81,00,000 1,55,50,000 26,00,000 -19,44,000 -21,38,400 -23,52,240 -25,87,464 -28,46,210 -31,30,831 -34,43,915 -37,88,306 -41,67,137 -45,83,850 3,09,82,353 4,86,00,000 5,34,60,000 5,88,06,000 6,46,86,600 Sales Revenue Other Income COGS Fixed Costs Depreciation EBIT Tax @ 25% Net Income 3,15,90,000 1,15,00,000 19,00,000 36,10,000 9,02,500 27,07,500 3,47,49,000 1,20,75,000 19,00,000 47,36,000 11,84,000 35,52,000 3,82,23,900 1,26,78,750 19,00,000 60,03,350 15,00,838 45,02,513 4,20,46,290 1,33,12,688 19,00,000 74,27,623 18,56,906 55,70,717 7,11,55,260 7,82,70,786 8,60,97,865 9,47,07,651 10,41,78,416 11,45,96,258 2,07,00,000 4,62,50,919 5,08,76,011 5,59,63,612 6,15,59,973 6,77,15,971 7,44,87,568 1,39,78,322 1,46,77,238 1,54,11,100 1,61,81,655 1,69,90,738 1,78,40,274 19,00,000 19,00,000 19,00,000 19,00,000 19,00,000 19,00,000 90,26,019 1,08,17,537 1,28,23,153 1,50,66,023 1,75,71,708 2,03,68,416 2,07,00,000 22,56,505 27,04,384 32,05,788 37,66,506 43,92,927 50,92,104 45,37,500 67,69,514 81,13,153 96,17,365 1,12,99,517 1,31,78,781 1,52,76,312 1,61,62,500 -2,15,50,000 26,63,500 33,13,600 40,50,273 48,83,253 58,23,304 68,82,321 80,73,450 94,11,211 1,09,11,644 1,25,92,461 4,71,44,853 1 Free Cash Flow (Net Income + depreciation + Change in WC) Discounting Factor Discounted Cash Flow Cumulative Discounted Cash Flow PayBack Net Present Value Pay Back period in Years IRR 0.8621 0.7432 0.6407 0.5523 -2,15,50,000 22,96,121 24,62,545 25,94,838 26,96,977 -2,15,50,000 -1,92,53,879 -1,67,91,335 -1,41,96,497 -1,14,99,519 12 12 12 12 1,47,61,766 8.1 25.6% 0.4761 27,72,551 -87,26,969 12 0.4104 28,24,796 -59,02,173 12 0.3538 28,56,625 -30,45,548 12 0.3050 28,70,659 -1,74,889 12 0.2630 28,69,249 26,94,360 1 0.2267 0.1954 28,54,505 92,12,901 55,48,865 1,47,61,766 Discounting Factor 16% Currency in $ Year 2025 Townsville Plant 2020 2021 2022 2023 2024 2026 2027 2028 2029 2030 Terminal -1,50,00,000 -50,00,000 Development and Construction of Building Cost of Plant & Equipment Salvage Value - Building Salvage Value - P&E Change in Working Capital @ 4% 45,00,000 -18,00,000 -19,26,000 -20,60,820 -22,05,077 -23,59,433 -25,24,593 -27,01,315 -28,90,407 -30,92,735 -33,09,227 2,48,69,606 4,50,00,000 4,81,50,000 5,15,20,500 5,51,26,935 5,89,85,820 6,31,14,828 6,75,32,866 7,22,60,166 7,73,18,378 8,27,30,665 45,00,000 Sales Revenue Other Income COGS Fixed Costs Opportunity Loss Depreciation EBIT Tax @ 30% Net Income 3,37,50,000 50,00,000 70,000 20,00,000 41,80,000 12,54,000 29,26,000 3,61,12,500 52,50,000 70,000 20,00,000 47,17,500 14,15,250 33,02,250 3,86,40,375 55,12,500 70,000 20,00,000 52,97,625 15,89,288 37,08,338 4,13,45,201 57,88,125 70,000 20,00,000 59,23,609 17,77,083 41,46,526 4,42,39,365 60,77,531 70,000 20,00,000 65,98,924 19,79,677 46,19,247 4,73,36,121 5,06,49,649 5,41,95,125 63,81,408 67,00,478 70,35,502 70,000 70,000 70,000 20,00,000 20,00,000 20,00,000 73,27,299 81,12,738 89,59,539 21,98,190 24,33,821 26,87,862 51,29,109 56,78,917 62,71,678 5,79,88,784 6,20,47,998 73,87,277 77,56,641 70,000 70,000 20,00,000 20,00,000 98,72,317 1,08,56,025 29,61,695 32,56,808 69,10,622 75,99,218 45,00,000 13,50,000 31,50,000 -2,00,00,000 31,26,000 33,76,250 36,47,518 39,41,449 42,59,814 46,04,516 49,77,602 53,81,271 58,17,887 62,89,991 2,80,19,606 Free Cash Flow (Net Income + depreciation + Change in WC) Discounting Factor Discounted Cash Flow Cumulative Discounted Cash Flow PayBack Net Present Value Pay Back period in Years IRR 0.6355 25,04,862 -94,16,310 12 1 0.8929 0.7972 0.7118 -2,00,00,000 27,91,071 26,91,526 25,96,231 -2,00,00,000 -1,72,08,929 -1,45,17,403 -1,19,21,172 12 12 12 1,19,36,798 8.1 20.8% 0.5674 24,17,133 -69,99,177 12 0.5066 23,32,791 -46,66,386 12 0.4523 22,51,614 -24,14,771 12 0.4039 21,73,405 -2,41,366 12 0.3606 20,97,988 18,56,622 1 0.3220 20,25,209 38,81,831 0.2875 80,54,967 1,19,36,798 Discounting Factor 12%