Capital investment appraisal

Define the term "payback period" as used in capital investment appraisal. (2 marks)

State TWO advantages of using the payback period method of capital investment appraisal. (2 marks)

Using your answer to Question 7, calculate the payback period for the Brigham Components Ltd project. (2 marks)

Define the term "cost of capital" as used in net present value (NPV) appraisal. Explain what applying a discount factor to a future cash flow achieves. (3 marks)

Explain why depreciation is not included as a cash outflow when calculating the net cash flows for a capital investment appraisal. (3 marks)

Highfield Plastics Ltd is considering purchasing a new injection moulding machine at a cost of £48,000. Net cash inflows from the machine are estimated as follows. Calculate the payback period for the machine. Show your workings clearly. (4 marks)

Explain TWO limitations of using the net present value (NPV) method of capital investment appraisal. (4 marks)

Explain TWO reasons why the estimated cash flows used in a capital investment appraisal become less reliable the further they are projected into the future. (4 marks)

Explain why a business might use both the payback period and net present value (NPV) methods, rather than relying on one method alone, when making a capital investment decision. (5 marks)

Craymoor Bakeries Ltd needs to choose between two flour suppliers for a three-year supply contract. The estimated annual costs of each supplier are as follows. The cost of capital is 10%. Discount factors at 10%: Year 1: 0.909; Year 2: 0.826; Year 3: 0.751. (a) Calculate the net present cost of each supplier contract. (4 marks) (b) State, giving a reason, which supplier Craymoor Bakeries Ltd should select. (2 marks)

Cromwell Tools Ltd is considering investing in Project Kestrel. The project has a payback period of 3 years 5 months and a net present value of +£18,500 at the company's cost of capital of 10%. The managing director has a rule that any project with a payback period exceeding 3 years should automatically be rejected, without any further analysis. Assess the managing director's approach to capital investment appraisal at Cromwell Tools Ltd. (6 marks)

The finance team at Ferndale Engineering Ltd recommends approving any capital investment project that has a positive net present value (NPV) at the required cost of capital, without considering any other factors. Assess whether a positive NPV is, on its own, a sufficient basis for approving a capital investment project. (6 marks)

Meadow Furniture Ltd is evaluating whether to purchase a new cutting machine at a cost of £40,000. The machine is expected to generate the following net cash inflows over its five-year life. The company's cost of capital is 8%. Discount factors at 8% are provided below. (a) Calculate the payback period for the machine. (3 marks) (b) Calculate the net present value of the machine at 8%. (5 marks)

Ashbury Retail Ltd is considering fitting out a new retail unit at a cost of £74,000. The directors have set two criteria that any capital project must satisfy before approval: - Payback period must not exceed four years. - Net present value must be positive at a cost of capital of 10%. Estimated net cash inflows from the retail unit are as follows. Discount factors at 10%: Year 1: 0.909; Year 2: 0.826; Year 3: 0.751; Year 4: 0.683; Year 5: 0.621. (a) Calculate the payback period for the project. (3 marks) (b) Calculate the net present value of the project at 10%. (4 marks) (c) State whether the project satisfies both of the directors' criteria. (1 mark)

The finance director of Devonshire Textiles Ltd has introduced a policy that all capital investment decisions must be made using only the payback period method. Any project with a payback period exceeding four years is automatically rejected. The board is currently considering two mutually exclusive projects: - **Project Larch:** payback period 3 years 8 months; net present value +£42,000 at 10%. - **Project Maple:** payback period 4 years 3 months; net present value +£87,000 at 10%. Assess the finance director's policy of using only the payback period to make capital investment decisions at Devonshire Textiles Ltd. (8 marks)

Thornbury Logistics Ltd must choose between two new delivery vehicles. Only one vehicle can be purchased. The following information is available. The company's cost of capital is 10%. Discount factors at 10% are provided below. (a) Calculate the payback period for each van. (4 marks) (b) Calculate the net present value of each van at 10%. (5 marks) (c) State, giving one reason, which van is preferred under NPV. (1 mark)

Galmont Electronics plc is choosing between two mutually exclusive investment projects. The company requires all projects to satisfy two criteria: a payback period not exceeding five years and a positive net present value at a cost of capital of 9%. The following appraisal data has been prepared by the finance team. Evaluate which project Galmont Electronics plc should select. Consider financial factors only. (10 marks)