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Question IV: 10 MARKS Think big, start small, then scale or fail fast. - Mats Lederhausen The imtern from a reputed institute is given the
Question IV: 10 MARKS "Think big, start small, then scale or fail fast." - Mats Lederhausen The imtern from a reputed institute is given the task of analyzing two mutually exclusive projects proposals at the Headquarters of H.E.C. Ltd. (A heavy engineering company). It had two plants; one at Ranchi (referred to as Plant R); the other at Bokaro (referred to as Plant B). The plant managers of the two plants had submitted proposals related to the expansion of their respective plants. The proposals provided incremental benefits in terms of cash flow projections from the expansion of their respective plants. However, H.E.C. Ltd. could take up only one of the two projects for expansion currently as with expanding only one of the two projects, it will be able to meet the demand for heavy machinery. The cash flow projections of the two proposals are provided in Table I. The initial outlay for Plant R expansion would be 220 million and for Plant B would be 400 million. The benefit in terms of cash flows for Plant R would be 60 million starting from Year 1 and will grow at a growth rate of 4% till perpetuity and for Plant B it will be 100 million also growing at a rate of 4% till perpetuity from Year 1 onwards. The cost of capital was not known. The main task of the intern was to find out the cost or capital for which HEC Ltd. would be indifferent between choosing any of the two projects. 4.1 What is the cross-over rate? (2 MARKS) 4.2 What are the IRRs for the two projects? (4 MARKS) 4.3 What should the intern suggest regarding investment decisions? Provide the overall solution by taking various relevant intervals of cost of capital. (4 MARKS) Question IV: 10 MARKS "Think big, start small, then scale or fail fast." - Mats Lederhausen The imtern from a reputed institute is given the task of analyzing two mutually exclusive projects proposals at the Headquarters of H.E.C. Ltd. (A heavy engineering company). It had two plants; one at Ranchi (referred to as Plant R); the other at Bokaro (referred to as Plant B). The plant managers of the two plants had submitted proposals related to the expansion of their respective plants. The proposals provided incremental benefits in terms of cash flow projections from the expansion of their respective plants. However, H.E.C. Ltd. could take up only one of the two projects for expansion currently as with expanding only one of the two projects, it will be able to meet the demand for heavy machinery. The cash flow projections of the two proposals are provided in Table I. The initial outlay for Plant R expansion would be 220 million and for Plant B would be 400 million. The benefit in terms of cash flows for Plant R would be 60 million starting from Year 1 and will grow at a growth rate of 4% till perpetuity and for Plant B it will be 100 million also growing at a rate of 4% till perpetuity from Year 1 onwards. The cost of capital was not known. The main task of the intern was to find out the cost or capital for which HEC Ltd. would be indifferent between choosing any of the two projects. 4.1 What is the cross-over rate? (2 MARKS) 4.2 What are the IRRs for the two projects? (4 MARKS) 4.3 What should the intern suggest regarding investment decisions? Provide the overall solution by taking various relevant intervals of cost of capital. (4 MARKS)
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