Question 3 (Marks: 25)

The management of Paradox Limited is looking for short term investment opportunities, they met an entrepreneur who has an idea for a new toy, the toy would however only be a phase for a year or two at the most.

Paradox Limited is considering buying a machine at a cost of R350 000 to manufacture the toy.

The sales manager estimates that 15 000 units will be sold per annum.

The profit per toy is R100, and the entrepreneur wants 10% of the profit of each toy sold.

The number of units sold is estimated to decrease with 15% in the second year.

The machine will not be resalable and R60 000 will be paid for the removal of the machine and cleanup of the area where the machine was installed at the end of the second year. Paradox Limiteds cost of capital is 13%. (Make use of your financial tables)

Required: Q.3.1 Calculate the NPV (Net Present Value) of the project and advise the management of Paradox Limited if they should go ahead with the project. (15)

Q.3.2 The financial manager of Paradox Limited is of the opinion that the toy will only be popular for one year, and that they will only be able to make a profit of R120 per toy with the increase in overhead costs projected. He anticipates that 20 000 toys will be sold during the first year. Calculate the NPV of the project, if the machine can be sold for R75 000 at the end of the first year. (10)