1. The Owner of Emdee (Pty) Ltd is your friend since his high school. He has been running his small garden service business for the last 10 years while you have been working and studying. He knows you recently completed your PDM at WITS and has asked you as his friend for a special favour to help him make some critical business decisions. He has saved some cash over the last 3 years and wants to use it to expand his business. He has evaluated a few opportunities and has narrowed his decision down to either: - Buying a few new bakkies and equipment and investing in new teams to be able to service more customers (Bakkie Option). or - Upskilling his current team to expand the services to more than just basic gardening services and therefore selling more to existing customers (Upskill Option). He has done some financial projections, which are summarized below:

Bakkie Option Upskilling Option

Expected Cash Flows Expected Cash Flows

Y0: (1,500,000) Y0: (2,000,000)

Y1: 450,000 Y1: 950,000

Y2: 850,000 Y2: 950,000

Y3: 900,000 Y3: 950,000

Your friend has been used to a return of about 10% and enjoys a comfortable living with this return. He does not want these investments to impact his lifestyle with strain on his returns and cash flow.

a) What discount rate will you use to evaluate this project? Why? (2)

b) Compute the NPVs of the two projects (4)

c) On the basis of your calculations in b) above, which option will you advise him to take? (2)

d) The IRR for both of these projects, logically, must be above 10% - true or false? (2)

e) What other qualitative factors would your friend have to take into account besides the financial calculations above? List 3 for each option (6)

f) Your friends wife is very nervous of both options and has suggested that it is better to simply invest the R2,000,000 in a fixed deposit account that will yield 6.5% per annum over the next 3 years Do you agree with her? Motivate your answer with relevant calculations. (5)

g) If the Bakkie Option had a project life of 4 years after which the bakkies had to be replaced, and the Upskilling option still had a project life of 3 years after which the people had to be retrained, what technique would you use to do a valid comparison of the costs of each option?

h) What risks are inherent in using the expected future cash flow method of evaluating projects? (2)