The General Manager (GM) of RUNWELL Corporation needs a detail analysis on an exciting
proposal to introduce a new line of vehicle parts for environmental protection against carbon
emission. Starting the production line requires renovating one existing section of the factory. It
will be a B2B contract based project that will continue for eight years. It’s projected that
technological up-gradation of car manufacturing process will make this production line obsolete
in ten years’ time.
In winning this contract through a bidding process, the company has spent $41,000. Required
renovation can be conducted immediately at a cost of $130,000 that includes installation cost of
new plant and equipment (P&E). The contract requires annual quality assurance inspection that
will cost $36,000 per annum. The procurement of HR will be one-off cost at the beginning and
estimated to be $48,000.
FIN20014 Financial Management: Individual Assignment Sem-1, 2015
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A local distributor of a Japanese company can immediately supply all required parts and
accessories of the new P&E for a total charge of $1,400,000 including import duty of $210,000.
In addition, transportation cost of $40,000 and installation costs of $70,000 are to be incurred
for new P&E. These P&E would be depreciated over its useful life of ten years using a tax
allowable straight line rate of 10%. However, the company can sell the machine at the end of the
contract for $250,000 after incurring an additional cost of $24,000. The company has decided to
capitalise total renovation costs to new P&E.
RUNWELL will be in contract to supply 48,000 boxes of the parts per year and that will require
RUNWELL to operate at 80% of its capacity when variable operating cost will be 50% of sales.
Selling price per box will be $30. Annual fixed operating cost, excluding depreciation, will be
$160,000. It is estimated that the production line will operate at full capacity during the last four
years due to increasing demand. Variable operating cost at full capacity would be 45% of sales.
Existing section of the factory, where the new P&E will be installed, is in use by a subcontractor
who pays monthly rent of $2,500. Therefore, RUNWELL has to forgo the rent income once the
new production line commences its operation.
In addition to initial employee training cost of $26,000, there will be additional training expense
of $18,000 in the first year. It is also estimated that the new production line will require an
initial increased investment of $51,000 in stock and $23,000 in debtors that are offset by an
increase in creditors of $25,000.
The firm has a 14% weighted average cost of capital (WACC) and is subject to a 30% tax rate.
The required discounted payback period is 5 years.
The GM hesitates to take the final decision because of unexpected growth in car manufacturing
technology. RUNWELL has an offer to sell the contract to another compliant company for
$200,000. The GM also asks whether or not the discount rate should be increased to allow for
the risk of the above contract or is the WACC appropriate?
Using Excel Spreadsheet prepare a full analysis to be presented to the GM of RUNWELL
Corporation evaluating whether the existing product line should be replaced by the new
product line. Your analysis should include the following
• Table of cash flows
• Use of excel formulae where appropriate
• A written report (1200 words, +/- 10%) outlining your recommendation as to whether
RUNWELL Corporation should proceed. Justify your recommendation and your analysis
Marks will be awarded for:
• Set out of spreadsheet
i. Ease of reading spreadsheet
ii. Use of excel formulae in organised spreadsheet
iii. Correct application of theoretical model
• Overall presentation of answer including the written report.
* Carefully read the following Marking Rubric on page-3 for required components and
presentation of formal report.