The marketing department of PharmaTech plc has put forward for consideration the following capital investment

Question 1


The marketing department of PharmaTech plc has put forward for consideration the following capital investment project, details of which are shown below.

The proposed project has an initial investment requirement of £340,000, with expected inflows and outflows of £100,000 and £25,000 respectively each year for the next six years.

The investment required is not readily available in the form of working capital and therefore the company would require both equity and debt financing. The equity requirement would constitute half of the investment, with the remainder through debt financing. Equity investors require a 7% return and debt financers require 6% interest. There is also an associated risk premium of 1.5% which needs to be considered.

However, the Managing Director has concerns about the viability of the project and applies strict targets which must be achievable before the project can be accepted. In order to be considered the Managing Director requires a payback period of 4 years, a target accounting rate of return (ARR) of 11 per cent and a positive net present value (NPV).



a) Calculate the undiscounted payback period. (3 marks)

b) Calculate the Weighted Average Cost of Capital (WACC). (4 marks)

c) Calculate the NPV (Net Present Value) of the project, using the WACC calculated in (b) above as the discount rate. (5 marks)

d) Calculate the Accounting Rate of Return (ARR) of the project. (4 marks)

e) Drawing from the information calculated in the sections above, and taking into consideration the requirements set by the Managing Director, discuss whether the project should be accepted or rejected. (9 marks)


(Total 25 marks)



Question 2


Ultratex plc a textile company is considering investing in some of the latest technological machinery to keep pace with its competitors. In order to investigate potential sources of finance for the investment, the company wishes to analyse the seasonal nature of its cash flows in order to formulate a proposal for a credit line from the commercial banks. In order to do so it draws up a cash budget for the forthcoming year running from January 1 to December 31.

The pattern of its present sales is as follows: January through to July, November and December £1,500,000; August £2,500,000; September, £3,000,000 and October £3,750,000. Cash received on sales amounts to 40 per cent in the current month of sales, and 60 per cent in the month following sales. This pattern of sales and receipts is expected to continue for the coming twelve months.

For the forthcoming year the pattern of its expenses and obligations are expected to be as follows: Raw material stock purchases are £350,000 plus 25 per cent of the next month’s sales. The cost of labour, both direct and indirect, incurred each month is £450,000 per month. Selling and administration expenses are 10 per cent of current monthly sales. Marketing expenses are estimated at £65,000 per month. Depreciation charges for the year are £600,000. Estimated quarterly income tax payments of £125,000 are to be paid in January, April, July and October. Cash on hand on January 1 of the forthcoming year is £550,000. In addition it is estimated that an interim dividend of £500,000 will be paid in July and a similar amount declared and paid at the end of December.



  1. Draw up a cash budget for the forthcoming year ending December 31, showing the balance of cash at the end of each month. (15 marks)


(b) Using the information obtained from the cash budget prepared in (a) above, discuss Ultratex plc’s cash position for the coming year, making any recommendations you think necessary. (5 marks)


(b) If the cost of purchasing the new technology is £5 million, comment on whether Ultratex plc would be able to raise any of the finance for this purchase from its cash balance. Justify your answer. (5 marks)


(Total 25 marks)

    • Posted: 3 years ago
    The marketing department of PharmaTech plc has put forward for consideration the following capital investment

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