Question 2 (30 marks)

You must answer all parts of this question.

Imagine that you have recently been hired as the Finance Director of MK Baby Food Ltd, a well-established organisation that has developed a unique brand of baby food products. It has been in operation for over 50 years and is located in Milton Keynes.

With the demand for organic products on the rise, the Strategic Leadership Team has proposed investment in new equipment specifically dedicated to the production of organic baby food products. The team is considering two mutually exclusive options and has asked for your expert knowledge before it decides which project to invest in. Each project requires a huge capital outlay, although Project B is more energy efficient and, therefore, more environmentally friendly.

The team has supplied the following information for your consideration:

Project net cash flows ()
Year	Project A	Project B
Year 0	(250,000)	(320,000)
Year 1	68,000	78,000
Year 2	77,000	86,000
Year 3	80,000	96,000
Year 4	78,000	102,000
Year 5	68,000	88,000

MK Baby Food Ltd uses the straight-line method of depreciation and its cost of capital (the discount rate for investment appraisal) is 12%. It is assumed that both projects will have a residual value of nil at the end of the five years.

• a.Calculate the payback period for both projects. (6 marks)
• b.Calculate the net present value (NPV) for both projects. You can use any method taught in the module to perform your calculations (calculating manually, using discount tables or using an Excel spreadsheet). (8 marks)
• c.Calculate the accounting rate of return (ARR) for both projects. (8 marks)
• d.Based on the results from calculations in parts (a), (b) and (c), which project should MK Baby Food Ltd invest in? Explain your answer. (2 marks)
• e.In your own words, discuss the key non-financial factors that MK Baby Food Ltd should consider in investment appraisal decision-making. (6 marks)