ACC00716: Initech with its capital budgeting decisions. - Accounting Assignment

Internal Code: MAS3168

Accounting Assignment:

Initech is considering whether it should expand the production of a part for a new generation of mobile devices. Trends suggest these devices and their parts will offer high growth in the early years of a 5-year life cycle. The new plant and equipment needed to produce the part will cost $800,000, which the business will depreciate for tax purposes using a prime cost rate of 10% per annum. When the project is wound up at the end of five years, the general purpose equipment is expected to be sold for an estimated $200,000. Sales in the first year are expected to be $4,000,000, increasing at a high rate of 10% in the second and third years and then falling by 15% per year for the last two years of the project as demand declines due to competing for new technologies. Consultants called in previously by Initech, who were paid $75,000 in fees, estimated that variable costs for the project will be 50% of its revenues. Building rental, fixed salaries and other fixed costs directly related to the project are expected to be $1,500,000 in the first year and increase by 2% per year thereafter. The investment in net operating working capital related to the project is expected to be 10% of the following year’s sales revenues. This investment will be recovered by the end of the project. It is also thought that the project will encourage additional after-tax profits of $150,000 per year for Initechs’ existing part range. Question: 1) You are helping Initech with its capital budgeting decisions. The company is a producer and wholesaler of electronic parts, has a 14% cost of capital and is subject to a 30% tax rate. There are two major proposals on which Initech would like your advice. 2) Briefly, describe a likely “average” risk capital budgeting project for the company. Consider its possible life, cash flow pattern and investment size relative to the company. Also hypothesise the variables to which NPV might be most sensitive and would, therefore, need the most focus in project analysis. No quantitative analysis is needed to answer this question. Focus on qualitative factors. If the company has several business divisions, choose one for this question. 3) Assess the working capital management of your assigned company, focusing on its cash conversion cycle for each of the 30 June 2015 and 30 June 2016 financial years. Incorporate the company’s context within your evaluation and compare with a competitor or other relevant benchmark. As in Assignment 2, use DatAnalysis to access your assigned company’s financial data. 4) What does the use of commercial paper suggest the credit risk of Telstra? 5) What does asset financing policy the quote above suggest Telstra may follow? Justify your answer and outline the benefits of that policy in comparison with alternative policies.