PROJECT COST AND PROCUREMENT MANAGEMENT (30 MARKS) Netsurf Inc. is a new tech company in the eastern seaside of Cape Town. The company directors are now considering the installation of a new computer system using specially written software to streamline the business's warehousing operations. The initial outlay on the project will be substantial. Nigel, who is one of the two directors, estimates that payments to the software house will be R2,271,276 immediately, with a further R1,703,457 in year 1 as well as equipment and installation and testing costs to the amount of R3,361,488 during the same year. The plan is that the new system should go live in one year's time. After that point the business should start to reap considerable benefits from what will be, essentially, a paperless ordering and shipment tracking system. The partners plan to reduce their staffing levels considerably during the first two years during which the system is in operation and there will be other cost saving benefits including a reduction in office storage space, stationery, postage and other costs. Because of the increased efficiency of the operation, the partners also expect substantial increases in sales. The net cash inflows forecast from the installation of the new systems are as follows: Year Cash Flow (Rand) 2 4 179 147 3 3 611 328 4 2 452 978 5 2 180 424 6 908 510 At the end of year six, the partners anticipate that the system will have to be scrapped and replaced with whatever is the latest technology at the time. There will be no residual value in the system at that point. The company has asked you to appraise the project to see how quickly it will pay back. You offer to appraise the project using discounted cash flow techniques, although Chris (who did a business course a few years ago) is distinctly sceptical about this approach: 'The good thing about payback is that you can see immediately how long it's going to take to recoup the cost of the investment. Discounted cash flow doesn't make any sense to me'. However, he agrees that it might just be helpful to see what the NPV of the project is, and he estimates the business's cost of capital at 11%. 2 (10 Marks) QUESTION 1 Calculate the payback period for the project. Use the template provided. Year Cash Flow Cumulative Cash Flow 0 1 2 3 4 5 6 QUESTION 2 (20 Marks) 2.1. Calculate the NPV of the project using 11% as the discount rate (Use the PV Table provided in Appendix A). *Round off PV calculations to whole numbers. *Use the template provided. (16 Marks) Year Cash Flow Discount Factor @ (Discounted Cash 11% Flow) Present Value Net Present Value 3 2.2. Briefly highlight the arguments in support of the point of view that discounted cash flow techniques are better than the payback analysis as a method of investment appraisal. (4 Marks) Appendix A Present Value Tables Formula: PV = 1/(1+i)" n/i 4% 9% 11% 14% 10% 0.9091 0.8772 1 2 0.8264 0.7695 3 4 3% 0.9709 0.9426 0.9151 0.8885 0.8626 0.8375 0.8131 0.7894 5% 0.9524 0.9070 0.8638 0.8227 0.7835 0.7462 0.7107 0.6768 7% 0.9346 0.8734 0.8163 0.7629 0.7130 0.6663 0.6227 0.5820 0.5439 5 6 0.75131 0.6830 0.6209 0.5645 0.513 0.4665 2% 0.9804 0.9612 0.9423 0.9238 0.90571 0.8880 0.8706 0.8535 0.8368 0.8203 0.8043 0.7885 0.7730 0.7579 0.7430 0.7284 0.7142 12% 0.89291 0.7972 0.7118 0.6355 0.5674 0.5066 0.4523 0.4039 0.3606 0.3220 7 8 9 0.7664 0.4241 10 0.5083 0.3855 0.3505 11 0.2875 13 14 15 1% 0.9901 0.9803 0.9706 0.9610 0.9515 0.9420 0.9327 0.9235 0.9143 0.9053 0.8963 0.8874 0.8787 0.8700 0.8613 0.8528 0.8444 0.8360 0.8277 0.8195 0.8114 0.8034 0.7954 0.7876 0.7798 0.7720 0.76441 0.7568 0.74 0.7419 0.3186 0.2897 0.2633 0.2567 0.2292 0.2046 0.9009 0.8116 0.7312 0.6587 0.5935 0.5346 0.4817 0.4339 0.3909 0.3522 0.3173 0.2858 0.2575 0.2320 0.2090 0.1883 0.1696 0.1528 0.1377 0.1240 0.6446 0.6139 0.5847 0.5568 0.5303 0.5051 0.4810 0.4581 0.436 0.4159 0.3957 0.3769 0.3589 6% 0.9434 0.8900 0.8396 0.7921 0.7473 0.7050 0.6651 0.6274 0.5919 0.5584 0.5268 0.4970 0.4688 0.4423 0.4173 0.3936 0.3714 0.3503 0.3305 0.3118 0.2942 0.2775 0.2618 0.2470 0.2330 0.2198 0.2074 0.1956 0.1846 0.1741 0.9615 0.9246 0.8890 0.8548 0.8219 0.7903 0.7599 0.7307 0.7026 0.6756 0.6496 0.6246 0.6006 0.5775 0.5553 0.5339 0.5134 0.4936 0.4746 0.4564 0.4388 0.4220 0.4057 0.3901 0.3751 0.3607 0.3468 0.3335 0.3207 0.3083 0.2394 8% 0.9259 0.8573 0.7938 0.7350 0.6806 0.6302 0.5835 0.5403 0.5002 0.4632 0.4289 0.3971 0.3677 0.3405 0.3152 0.2919 0.2703 0.2502 0.2317 0.2145 0.1987 0.1839 0.1703 0.1577 0.1460 0.1352 0.12521 0.1159 0.1073 0.0994 0.1827 0.9174 0.8417 0.7722 0.7084 0.64991 0.5963 0.54701 0.50191 0.4604 0.4224 0.3875 0.3555 0.3262 0.2992 0.2745 0.2519 0.2311 0.2120 0.1945) 0.1784 0.16371 0.1502 0.1378 0.1264 0.1160 0.1064 0.0976 0.0895 0.0822 0.0754 13% 0.8850 0.7831 0.6931 0.6133 0.54281 0.4803 0.4251 0.3762 0.3329) 0.2946 0.2607 0.2307 0.2042 0.1807 0.1599 0.1415 0.1252 0.1108 0.0981 0.0868 0.07681 0.0680 0.0601 0.0532 0.0471 0.0417 0.03691 0.0326 0.0289 0.0256 0.7441 0.7224 0.7014 0.6810 0.6611 0.6419 0.6232 0.6050 0.5874 0.5703 0.5537 0.53751 0.5219 0.5067 0.4919 0.4776 0.4637 0.4502 0.4371 0.4243 0.4120 16 0.1631 0.1456 15% 0.8696 0.7561 0.6575 0.5718 0.4972 0.4323 0.3759 0.3269 0.2843 0.2472 0.2149 0.1869 0.1625 0.1413 0.1229 0.1069 0.0929 0.0808 0.0703 0.0611 0.0531 0.0462 0.0402 0.0349 0.0304 0.0264 0.0230 0.0200 0.0174 0.0151 17 0.6750 0.5921 0.5194) 0.4556 0.3996 0.3506 0.3075 0.2697 0.2366 0.2076 0.1821 0.1597 0.1401 0.1229 0.1078 0.0946 0.0829 0.0728 0.06381 0.0560 0.0491 0.0431 0.0378 0.0331 0.02911 0.0255 0.0224 0.0196 0.7002 0.4751 0.4440 0.4150 0.3878 0.3624 0.3387 0.3166 0.2959 0.2765 0.2584 0.2415 0.2257 0.2109 0.1971 0.1842 0.1722 0.16091 0.1504 0.1406 0.1314 0.1300 18 19 20 21 0.1117 22 0.3418 0.6864 0.6730 0.6598 0.6468 0.6342 0.6217 0.6095 0.5976 0.58591 0.5744 0.5631 0.5521 23 24 0.3256 0.3101 0.2176 0.1978 0.1799 0.1635 0.1486 0.1351 0.1228 0.1117 0.1015 0.0923 0.0839 0.0763 0.0693 0.06301 0.0573 0.1161 0.1037 0.0926 0.0826 0.0738 0.0659 0.0588 0.0525 0.04691 0.0419 0.0374 0.0334 25 26 0.1007 0.0907 0.0817 0.0736 0.0663 0.0597 0.0538 0.0485 0.0437 0.2953 0.2812 0.2678 0.2551 0.2429 0.2314 27 28 29 30 2014 www.tvmschools.com present value tables