Question
In their last meeting, the board of Digicut Limited agreed that the company would venture into the Alternative Reality Marketing space so that they have
In their last meeting, the board of Digicut Limited agreed that the company would venture into the Alternative Reality Marketing space so that they have first-mover advantage in the Ghanaian market for the service. The board of directors has tasked the CFO of Digicut Limited to present a capital budget to cover new equipment he had proposed the company invest in as they prepare for this strategic move. His checks reveal that the company would need to invest GHS100,000 in fixed capital items. This investment included virtual reality equipment like the Hololens worth GHS175,000 and a GHS25,000 investment in non- depreciable land for new offices. The equipment will be depreciated straight-line over five years. Digicut will need to invest GHS30,000 in net working capital at the start of the project. The CFO projects that venturing into Alternative Reality Marketing will generate sales of GHS220,000 and operating expenses of GHS90,000 per year. At the end of the fifth year, the CFO projects that the fixed capital investments ( which includes the land) can be sold off for GHS50,000. The CFO also projects that all amounts invested in net working capital will be recovered. The CFO thinks it would be most prudent to use the current tax rate of 40% in all computations.
Required: You have just finished a presentation to the CFO where you have correctly determined the WACC of Digicut as 13.3%. The CFO has asked that you prepare a capital budget by first determining the net cash flows and, subsequently, the NPV of this project using the WACC you have computed.
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