Question:
Company XYZ is planning a new product. In order to produce the new product fixed assets costing $700,000 will be needed with $500,000 payable at once and the balance payable after one year. An initial investment of $330,000 in working capital would also be needed. XYZ expects that after 4 years, the new product will be obsolete and that the disposal value of the project will be zero. The project would incur total fixed costs of $550,000 per year at current prices, including annual depreciation of $180,000. Expected sales of the new product are 120,000 at a selling price of $22 per unit and a variable cost of $16 per unit-both in current price terms. XYZ expects the following annual increases because of inflation:
Fixed Costs 4%
Selling Price 5%
Variable costs 7%
Working capital 7%
General Rate(RPI) 6%
XYZ's real cost of capital is 7.5% and taxation is ignored.
Produce a report, showing all necessary calculations and highlighting any assumptions made, which evaluates whether or not the project is worthwhile undertaking.
You should note that it is not sufficient just to produce a set of calculations, you need to provide a reasoned case in your report assuming that it will be read by your CEO who is not an expert of finance.