Assignment Task
1. An Airline company is considering investing in a machine, and it can pick from two alternatives.
The cost and cashflows associated with each purchase is shown below:
MACHINE A:
T0 T1 T2 T3 T4
Cash
flows($)
(100 000) 80 000 70 000 60 000 50 000
MACHINE B:
T0 T1 T2 T3 T4
Cash
flows($)
(80 000) 30 000 50 000 50 000 50 000
a) Calculate the average return on capital employed (ROCE) over the life of each machine. You can assume that both machines are going to be depreciated using the straight-line method and they will not have any scrap value.
b) Which machine should the company buy and why? What disadvantage of ROCE does this example highlight?
c) How can IRR bring in a different perspective in appraising investments. What are the advantages and disadvantages of IRR?
d) Instead of investing in this project, one manager thinks that it would be better to buy into an annuity which will pay $ 60 000 each year for the next 4 years. What
would be your advice if the amount of money available for investing was $ 90 000 only and the interest rate was 8%?
2. The payback period can act as a good screening technique to eliminate any project that would put undue strain on the company’s liquidity position. One of the problems
of this method is that it does not take into consideration the time value of money.
a) Calculate the payback period of the following net cash flows:
Year T0 T1 T2 T3 T4 T5
Cashflow($) (400000) 40000 120000 160000 200000 140000
b) Assuming a discount rate of 10%, calculate the discounted payback period of the above scenario.
c) Apart from the above-mentioned disadvantage, what is the other disadvantage of the payback period appraisal method?
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