Gerakis Family Wines $($Pty$)$ Ltd $($GFW$)$ was founded in $2010$ by Keith Gerakis. GFW produces wines

from grapes sourced from farms in the Swartland and Elgin, Western Cape Province. These areas have

had persistent drought over the last few years which resulted in dwindling grape harvest. Furthermore,

GFW$$s grapes suppliers are reportedly well known for their child labour practices. GFW produces its

wines from its world$-$class winery in the heart of Craighall Park, Johannesburg, an area that regularly

experiences water and electricity outages due to aging infrastructure of the local municipality.

More than $80\%$ of the wines produced by GFW are sold to overseas customers who pay in EUROs, and

the remaining balance is sold locally. As part of its expansion strategy the entity is considering investing

in a new winery. The management accountant has so far gathered the following information as part of

the evaluation of this proposed project:

$1.$ All the cash flows $($including all the relevant taxes$)$ occur at the end of the related financial year,

except for the initial capital outlay$($s$)$ which occur at the beginning of the year.

$2.$ The winery will be built on the same piece of land as the existing winery. The entity has been renting

the land since $2010,$ and it currently pays R$300000$ in rental fees per month. The rental agreement

stipulates that GFW is liable for rates and taxes which are currently R$5000$ per month.

$3.$ The winery will be built at an original cost price of R$6$ million. The full amount will be funded by $100\%$

equity as GFW works towards its target capital structure. GFW$$s cost of equity is $13\%.$

$4.$ The investment in working capital is budgeted at R$500000$ in year one; R$400000$ in year two. There

will be no investment in working capital in year three.

$5.$ The facility must comply with the ISO requirements before manufacturing can commence. The

related commissioning costs are R$100000.$ If relevant, these costs are not capitalised.

$6.$ The winery is expected to generate annual operating profit before interest but after depreciation as

follows: Year $1$: R$2,5$ million; Year $2$: R$4$ million; and Year $3$: R$8$ million.

$7.$ The winery will be sold at the end of year three at an estimated selling price of R$5,1$ million.

Depreciation is provided for on a straight$-$line basis at $5\%$ per annum. The South African Revenue

Services will grant annual capital allowances over the useful life of the winery at $10\%$ per annum.

$8.$ The tax rate is $28\%$ for the period the winery will be in use. Economic growth is expected to be slow

and sluggish. The minimum required after taxation return on capital projects of this nature is $12\%.$

REQUIRED

For each question below, remember to:

$$ Clearly show all your calculations in detail;

$$ Round all your workings to two decimals, except where otherwise stated; and

$$ Where necessary, indicate irrelevant amounts$/$adjustments with a R$0($nil$-$value$).$

$($a$)$ Identify and briefly discus five types of risks that GFW is exposed to which are

eminent from the given scenario.

$(10)$

$($b$)$ From a quantitative perspective only $($NB: Use the Profitability Index$),$ comment on

whether GFW should invest in the new winery or not.