Nyakemincha Ltd, is a manufacturing business that current operates in a country where it is the industry norm to give credit terms to customers. The finance manager of the firm has made a proposal to the board of directors on who the firm can attempt to turn around the firm dwindling sales. The following are the details that has been collected on a fact-finding mission: The firm currently operates with terms of net 80 days and currently has account receivable investment amounting to Kes 4,400,000 for the year ended 31st December 2021. Eighty (80%) of the firm’s current sales are on credit. The firm is contemplating on changing the credit terms: it intends to offer 2% discount to cash and credit customers who will pay within 20 days, while maintaining the normal credit period to a maximum of 90 days. This will result to an increase in firm’s total sales by 60%. All cash 2 customers and 40% of credit customers will take advantage of the discount offer. The average debt collection period will increase to 80 days from the current 72 days. The bad debts are expected to remain at 3% of the credit sales. Once the proposal is implemented it will result to an increase in trade payable by Kes 1,000,000 while the inventory investment will remain at 5% of the firm’s total sales. The firm’s working capital is financed using overdraft finance from a local bank which charges 16% annual interest cost. The current gross profit margin of 40% will be maintained even after the proposal is implemented. Assume a 360-days year and corporate tax rate of 30%. 

Required: 

a) Advise the finance director whether the proposed changes will be financially acceptable. (14 marks). 

b) Sean Ltd, has set a minimum cash account balance of Kes 7,500. The average cost to the company of making deposits or selling investments is Kes 18 per transaction and the standard deviation of its cash flows was Kes 1,000 per day during the last year. The average interest rate on investments is 5.11% per year. Assume a 365 days year. Determine the; i) spread, ii) the upper limit and iii) return point for the cash account of Co using the Miller-Orr model and explain the relevance of these values for the cash management of the company. (5 marks) 

c) There are instances of conflict of decisions, that a firm can take when appraising a capital project, using the net present value method and the internal rate of return method. How do we resolve such conflicts? (2 marks) d) Mahir. Co. is appraising an investment project which it hopes will boost its performance. The project will cost Kes 20 million and the firm will carry out a market survey to evaluate the marketability of the produce to be made; this will cost Kes 2 million. These amounts must be paid in full in the first year of operation. The project is expected to have an economic life of 4 years; after which the machine will be sold for scrap at 10% of its initial cost. Forecast sales volume, selling price, variable cost and fixed costs will be as follows: 

Year                                   1               2               3                     4

 Sales (units/year)    300,000     410,000    525,000      220,000 

Selling price(Kes/unit)  125           130          140              120

 Variable cost(Kes/unit) 71             71             71                71

 Fixed costs (Kes ‘000) 3,000       3,100         3,200          3,000

 The corporation tax rate is 30% and tax are paid one year in arrears. The government of Kenya through the relevant tax laws grants any capital investment a 25% capital allowances, on the machine’s initial cost, on a reducing balance basis. The project’s aftertax cost of capital is 12%. Required: Calculate the projects net present value. (9 marks)