Argyl Manufacturing is evaluating the possibility of expanding its operations. This expansion will

require the purchase of a new equipment at a cost of $1,000,000. The equipment will be

depreciated on a straight-line basis over 5 years to a salvage value of $150,000. Installation

costs will be an additional $40,000 and shipping costs will be $10,000. Six month ago the firm

had spent $20,000 on a research exercise geared at determining the viability of the expansion.

The project will require net working capital of $70,000 initially (year 0), an additional $40,000 at

the end of year 1, and an additional $40,000 at the end of year 2. The project is expected to

generate increased operating income for the firm of $400,000 during year 1. Annual operating

income is expected to grow at a rate of 4 percent per year until the project terminates at the

end of year 5. Operating expenses (excluding depreciation) are projected to be $120,000 during

the first year and increase at a 7 percent annual rate.

Cost of capital for the company is 14% and the corporation tax rate is 25%.

a) Calculate the net investment for the project (5 marks)

b) Calculate the relevant after-tax net cash flows and after-tax profits over the life of the investment. [20 marks]

c) Compute the project's ARR [5 marks]

d) What is the payback period? [5 marks]

e) Using the NPV as the basis of your decision, advise Argyl as to whether the company should purchase the equipment.

f) Would you advise the company to base their decision on the payback method rather than the NPV as used above?

g) Compute the IRR of the project [10 marks]

h) The company is considering another investment which would have an initial cost of $800 000 and an NPV of $65000. There is a situation of capital rationing, and you have suggested that the firm should use the profitability index to choose which investment to implement. Advise the company.[5 marks]

i)Discuss THREE non-financial factors which the firm should consider when making investment decision. with references [6 marks