Question

QUESTION 2 Marvel Industries is a South African based manufacturer of “Solasheet”, an award-winning skylight. The company is currently investigating two investment projects. The information is given below: Project Chuck Involves extending the company’s production facility at Westville, Kwa-Zulu Natal. The plant will cost R12 million and is expected to create an additional annual profit of R2.26 million for the 8 years life of the project. The following expenses were included in the annual profit:  Depreciation was calculated on the straight-line method, over the life of project.  Share of existing overheads, borne by head office amounting to R0,3 million p.a. DC 6 Project Larry Involves setting up an independent manufacturing facility in Taiwan. The cost of the facility would be an initial outlay 105.40 million Taiwan dollars. This would result in annual sales of 44.8 million Taiwan dollars, for the 8 years of the project. The annual fixed costs and variable costs are 4.3 million and 10.6 million Taiwan dollars respectively. Note:  Marvel Industries current cost of capital is 12%.  The Taiwanese inflation is expected to exceed the South African inflation by 2% p.a. throughout the life of the project.  The current spot rate exchange is 5 Taiwan dollars to the Rand. Required: Compute the necessary calculations and advise Marvel Industries if it is worth investing in neither, in one or both of these two opportunities..

Answer 1

Project Chuck
Year	1	2	3	4	5	6	7	8
Investment	12,000,000
Additional Profit	2,260,000	2,260,000	2,260,000	2,260,000	2,260,000	2,260,000	2,260,000	2,260,000
Cost of Capital	1,440,000	1,440,000	1,440,000	1,440,000	1,440,000	1,440,000	1,440,000	1,440,000
Net Profit	820,000	820,000	820,000	820,000	820,000	820,000	820,000	820,000
Return on Capital	6.83
DC 6 Project
Investment	105,400,000
Annual Sales	44,800,000	44,800,000	44,800,000	44,800,000	44,800,000	44,800,000	44,800,000	44,800,000
Variable cost	10,600,000	10,600,001	10,600,002	10,600,003	10,600,004	10,600,005	10,600,006	10,600,007
Contribution	34,200,000	34,199,999	34,199,998	34,199,997	34,199,996	34,199,995	34,199,994	34,199,993
Fixed cost	4,300,000	4,300,001	4,300,002	4,300,003	4,300,004	4,300,005	4,300,006	4,300,007
Cost of Capital	12,648,000	12,648,000	12,648,000	12,648,000	12,648,000	12,648,000	12,648,000	12,648,000
Net Profit	17,252,000	17,251,998	17,251,996	17,251,994	17,251,992	17,251,990	17,251,988	17,251,986
Allowance for Inflation	345,040	345,040	345,040	345,040	345,040	345,040	345,040	345,040
NP after inflation	16,906,960	16,906,958	16,906,956	16,906,954	16,906,952	16,906,950	16,906,948	16,906,946
Rand	3,381,392	3,381,392	3,381,391	3,381,391	3,381,390	3,381,390	3,381,390	3,381,389
Return on Capital	3.21
Both the projects are profitable. Project Chuck at Westville gives a return of 6.83% whereas DC 6 Project at Taiwan gives a return of 3.21%. Hence preference should be given to Project Chuck at Westville, Kwa-Zulu Natal.