VKC is evaluating an investment proposal to manufacture Product AB$,$ which has performed well in test marketing trials conducted recently by the company$$s research and development division. The following information relating to this investment proposal has now been prepared.

Initial investment RM$2$ million

Selling price $($current price terms$)$ RM$20$ per unit

Expected selling price inflation $3\%$ per year

Variable operating costs $($current price terms$)$ RM$8$ per unit

Fixed operating costs $($current price terms$)$ RM$170,000$ per year

Expected operating cost inflation $4\%$ per year

The research and development division has prepared the following demand forecast because of its test marketing trials. The forecast reflects expected technological change and its effect on the anticipated life$-$cycle of Product AB$.$

Year $1234$

Demand $($units$)60\mathrm{.}00070\mathrm{.}000120\mathrm{.}00045\mathrm{.}000$

It is expected that all units of Product AB produced will be sold, in line with the company$$s policy of keeping no inventory of finished goods. No terminal value or machinery scrap value is expected at the end of four years, when production of Product AB is planned to end. For investment appraisal purposes, VKC uses a nominal $($money$)$ discount rate of $10\%$ per year and a target return on capital employed of $30\%$ per year. Ignore taxation.

Required:

a$)$ Identify and explain the key stages in the capital investment decision$-$making process, and the role of investment appraisal in this process.

b$)$ Calculate the following values for the investment proposal:

i$)$ net present value;

ii$)$ internal rate of return;

iii$)$ return on capital employed $($accounting rate of return$)$ based on average investment;

iv$)$ discounted payback period.

c$)$ Discuss your findings in each section of $($b$)$ above and advise whether the investment

proposal is financially acceptable.

MBA Accounting and Finance For Manager