Question 4: Project Costing and Risk (20 marks)

Sir John Elementary School plans to build a new playground in 2011. They received a

$100,000 government grant to be used for building the playground. They are hoping to break ground in May 2011 and complete the project by the start of school in September. Before they can start the project, however, they must dismantle the existing playground according to current safety standards, the existing playground is unsafe. A number of residential properties in the community have tested positive for soil contamination, so the school also plans to complete soil testing once the existing playground is dismantled. Due to recent news articles, parents are very concerned about the potential for soil contamination and are demanding a full test to ensure their kids are not playing on a contaminated playground.

Mary Chan, the school principal, has compiled the following estimates for the new playground:

Cost for dismantling existing equipment $15,000

Salvage value from the metal from existing equipment $4,000

Soil testing $15,000

New playground equipment $30,000

Cost of installation $15,000

Cost of resurfacing play area in rubber $45,000

Cost of landscaping (including $5,000 for gravel) $22,000

Cost of removing and replacing soil $53,000

The costs for installation, resurfacing, and landscaping are the costs quoted by professional contractors. Mary was approached by the president of the student council, Gary Schwinger, who has volunteered his own and three other parents time for installing and landscaping the new playground. This will save the school approximately $18,000 in costs.

The school has two options in terms of dealing with the contaminated soil. The first option is to not conduct the soil testing and to simply resurface the play area with a poured-rubber matting that can cover the entire play surface. This will cost, as Mary indicated in her estimates above, approximately $45,000a large chunk of the playground budget. The

other option is to perform the soil testing. A municipal worker has estimated that there is a

45% chance that the soil is contaminated. If this is the case, the school will either need to resurface the area for $45,000 or have the contaminated soil removed and replaced for a hefty cost of $53,000 plus the cost of gravel. However, there is a 55% chance that the soil will not be contaminated and the playground equipment can be installed on a gravel bed and the remediation and/or resurfacing cost will be avoided.

Required:

Prepare an analysis of the potential project costs for the following two scenarios. Landscaping will occur in both scenarios. There is no need for gravel, however, in the resurfacing scenario.

a. Resurface ground without doing soil testing.

b. Complete the soil testing. For this second option use the probabilities provided by the municipal worker to determine a weighted cost for this scenario.

What option would you recommend for the school? Why? Are there other non-financial considerations that you need to include in your decision?