Intermediate: Calculation of NPVs of two projects In the manufacture of a company’s range of products, the processes give rise to two main types of waste material.

Type A is the outcome of the company’s original processes. This waste is sold at £2 per tonne, but this amount is treated as sundry income and no allowance for this is made in calculating product costs.

Type B is the outcome of newer processes in the company’s manufacturing activity. It is classified as hazardous, has needed one employee costing £9000 per year specially employed to organise its handling in the factory, and has required special containers whose current resale value is assessed at £18 000. At present the company pays a contractor £14 per tonne for its collection and disposal.

Company management has been concerned with both types of waste and after much research has developed the following proposals.

Type A waste This could be further processed by installing plant and equipment costing £20 000 and incurring extra direct costs of £2.50 per tonne and extra fixed costs of £10000 per annum.

Extra space would be needed, but this could be obtained by taking up some of the space currently used as a free car park for employees. The appor¬ tioned rental cost of that land is £2500 per annum and a ‘compensation’ payment totalling £500 per annum would need to be paid to those employees who would lose their car-parking facilities.

The selling price of the processed waste would be £12.50 per tonne and the quantity available would be 2000 tonnes per annum.

Type B waste Using brand-new technology, this could be further processed into a non-hazardous product by instal¬ ling a plant costing £120000 on existing factory space whose apportioned rental cost is £12 500 per annum.

This plant cost includes a pipeline that would eliminate any special handling of the hazardous waste. Extra direct costs would be £13.50 per tonne and extra fixed costs of £20 000 per annum would be incurred.

The new product would be saleable to a limited number of customers only, but the company has been able to get the option of a contract for two years’ sales renewable for a further two years. This would be at a price of £11 per tonne and the output over the next few years is expected to be 4000 tonnes per year.

For Type A waste project, the board wants to achieve an 8% DCF return over four years. For Type B waste project, it wants a 15% DCF return over six years.

You are required

(a) to recommend whether the company should invest in either or both of the two projects. Give supporting figures and comments. Assume that no capital rationing exists.

(20 marks)

(b) to explain briefly in respect of Type B waste project what major reservations (apart from the cost and investment figures) you might have about the project, irrespective of whether you recommend it in

(a) above. (5 marks) Ignore inflation and taxation.

(Total 25 marks) CIMA Stage 4 Management Accounting Decision Making