Question 2

Based on the information in outlined in Appendix Q2.1 and Q2.2, evaluate the proposal to move the manufacturing facility from China to Vietnam. Use Discounted Cash Flow (DCF) analysis. Calculate Net Present Value (NPV) for the project and give a clear recommendation whether the proposal should proceed. Your answer should include a review of all the assumptions you make that need to be factored into the decision-making process. Set out your analysis clearly and show all workings. Work to the nearest million dollars.

Total Question 2: 25 marks

Appendix Q2.1

	China	China	China	UK	UK	UK	Total	Total	Total
	m	m	m	m	m	m	m	m	m
	2019	2020	2021	2019	2020	2021	2019	2020	2021
Product sold (units)	8,500,000	7,950,000	6,250,000	6,700,000	5,500,000	5,100,000	15,200,000	13,450,000	11,350,000
Sales	2,178	2,404	2,113	238	200	175	596	582	500
Cost of sales	1,013	1,161	1,088	112	95	89	272	279	256
Admin expenses	370	481	454	41	39	38	102	115	108
Selling & distribution expenses	320	433	423	33	35	35	85	104	100
Operating profit	475	329	148	52	31	13	131	84	36
Interest	0	0	0	6	7	10	6	7	10
Tax	0	0	0	13	8	3	13	8	3
Profit after tax	475	329	148	33	16	0	112	69	23

Appendix Q2.2: Manufacturing Unit's Business Proposal to Move Production from China to Vietnam

The following information has been prepared by a business development team. The initial capital investment to establish of a production facility on the outskirts of Hanoi City would cost US$380m. 90% of this investment would be payable at the end of year one, with the remainder payable now. The Vietnamese government incentivises foreign direct investment, with incentives including capital grant funding of up to 50% of the initial capital investment, payable in equal instalments over 5 years, starting in year 1. No writing down allowance is available on any element of the capital expenditure as a result of the capital grant provision. The grant funding is repayable if the company leaves Vietnam within 5 years.

In addition, a working capital investment of US$86m would be required at the outset of the investment. A subsidiary company (Jasmine Vietnam) would be the corporate vehicle through which the company would operate in Vietnam. US$30,000 has already been incurred to date exploring the legal structure of a company in Vietnam.

A loan facility of US$380m would be established with Bank Vietnam to finance the construction of the production facility, with and expected interest rate cost of 12%. In addition, an overdraft facility of US$100m would be established with an interest rate cost of 15%.

Jasmine Group's benchmark cost of capital for appraisal of investments of this nature is 10%.

The following plant saving projections have been provided and are expressed in current terms:

	Year 1	Year 2	Year 3	Year 4	Year 5
	$m	$m	$m	$m	$m
Reduced labour costs	30	28	26	24	22
Savings on distribution costs	10	10	10	10	10

The corporate tax rate for investors in Vietnam is 5% based on sales value for the relevant year and is paid one year in arrears.

By relocating to Vietnam, it is expected that sales demand will increase 25% compound per annum over the 2021 sales units achieved from the China plant. The reduced cost base on relocating to Vietnam is expected to enable a lower average sales price of US$40 per unit to be achieved thus generating the additional sales demand. A net margin of 20% is assumed on the additional sales.

An estimate of US$30m per annum (in current terms) has been computed for the allocation of central fixed costs of the parent entity to this activity.

Plant closure and wind down costs of the China facility are expected to be equivalent of US$70m, with 30% payable now, and the balance payable at the end of year 1.

As part of the conditions for the original investment in China (and any incentives received by Jasmine), the sale of the plant and associated lands in China cannot be realised until year 3 post cessation of activities. The expected net sales value in year 3 is US$160m. The land in China had an original cost of US$45m.

You may ignore inflation.

All transactions have been reflected in US$ as part of the capital proposal generation. There is no tax impact on transactions included in the NPV analysis associated with the China facility. The capital grant received from Vietnamese government is not subject to tax in Vietnam.