Blue Storage Ltd is considering a major investment to increase the number of square meters of storage
Question:
Blue Storage Ltd is considering a major investment to increase the number of square meters of storage space it can offer their customers. The investment is in light of some market research (cost £15,000), which has already been carried out amongst their customer base to consider how the level of demand is going to increase in the next four years.
Blue Storage Ltd has two options available. The first option involves increasing the level of storage at its current storage depot by 25%. The second option involves moving all their operations to a new unit 25 miles away, which will result in their storage space increasing by 50%.
The company uses the straight-line method of depreciation and has a cost of capital of 12%. It is assumed the residual value of Project A will be £100,000 at the end of the 4 years, while for Project B it will be £150,000. These residual values are not included in the cash flow projections given below.
| Net Cash Flows (£) |
|
Year | Project A net cashflow (£) | Project B net cashflow (£) |
0 | (200,000) | (400,000) |
1 | 90,000 | 130,000 |
2 | 100,000 | 150,000 |
3 | 110,000 | 160,000 |
4 | 120,000 | 190,000 |
- a.Calculate the payback period of both projects in years and months.
- b.Calculate the net present value (NPV) of both projects. The figures should be rounded to the nearest £.
- c.Calculate the accounting rate of return (ARR) of both projects. The figures should be rounded to two decimal points.
- d.Based on the results from calculations in parts (a), (b) and (c), which project should Blue Storage Ltd invest in? Explain your answer.
- e.Parts (a) to (d) have focused on the financial elements of the decision-making. Explain the non-financial elements that could contribute to the decision on which project (if any) to go ahead with.
Management Accounting
ISBN: 9780730369387
4th Edition
Authors: Leslie G. Eldenburg, Albie Brooks, Judy Oliver, Gillian Vesty, Rodney Dormer, Vijaya Murthy, Nick Pawsey