QUESTION THREE

Pepsi Limited is a Zimbabwean based manufacturer of heavy-duty equipment. The company is currently investigating two projects for expansion. It can only undertake one of them and has asked your advice in deciding which one to proceed with.

Project Coke:

Project Fanta:

Production at the existing factory could be expanded. The cost of the new plant for this option would be an initial outlay of ZW$65 million. This would result in an additional ZW$22 300 000 profit being earned in each of the 5 years that the project would last. The new plant to be fully depreciated over the 5 years, on a straight-line basis, in accordance with the company's accounting policy. The financial team has also determined that the new plant must bear its share of the existing overheads and that amounted to ZW$150 000 per annum. These expenses were included in the profit calculation. Consultant fees cost R200 000

Production could be increased by purchasing a new manufacturing facility in South Africa. The cost of the facility would be an initial outlay of R280 million. Annual sales for the 5-year period are expected to be R202 million annually, and fixed and variable cost of R66 million and R54.2 million respectively. The fixed cost includes depreciation of R15 million per annum. Consultants fees are expected to be R0.25 million.

Additional information:

- The South African inflation is expected to exceed the Zimbabwean inflation by 4% throughout the life of the project.

- Pepsi Limited cost of capital is currently 15%.

- The current spot exchange rate is R20/ZW$.

3.1 Compute the necessary calculations and advise Pepsi Limited if it is worth investing in neither, in one or both of these two opportunities. (25 marks)