GR is an outsourcing company that provides call centre services to a range of clients. As a result of technical advances in telecommunication equipment, the company's existing telephone system is out-dated and inefficient and needs to be replaced. A technical consultant, hired at a cost of TZS. 80,000, has prepared a report outlining two possible replacement systems. The details of each system are as follows:

System 1 System 2

Initial investment TZS. 600,000 TZS. 800,000

Estimated useful life 3 years 5 years

Residual value TZS. 60,000 TZS. 50,000

Contribution per annum TZS. 580,000 TZS. 600,000

Fixed maintenance costs per annum TZS. 20,000 TZS. 40,000

Other fixed operating costs per annum TZS. 360,000 TZS. 305,000

The maintenance costs are payable annually in advance. All other cash flows apart from the initial investment should be assumed to occur at the end of each year.

Depreciation has been calculated using the straight line method and has been included in other fixed operating costs.

The company uses a cost of capital of 12% per annum to evaluate projects of this type.

Required:

(a) Prioritise the two systems using an annualised equivalent approach. You should ignore taxation and inflation. Your workings should be shown in TZS. 000.

(b)

i. Explain the purpose of sensitivity analysis in investment appraisal.

ii. Calculate the sensitivity of your recommendation in part (a) to changes in the contribution generated by System 1.