Giostra plc manufactures trendy toys and gifts. Two new toys, named Lab-for-all and Game48, are now available for consideration by the directors of Giostra plc. The Marketing director suggested that each toy could be sold for three years, but not after that. On the basis of this research, profits are expected to be as follows: Lab-for-all 2019 2020 2021 Cash in flows 700,000 700,000 825,000 Game48 2019 2020 2021 Cash in flows 720,000 720,000 1,905,000 The cost of the new equipment will be £1,555,000 for Lab-for-all. The cost of the new equipment will be £2,155,000 for Game48. Giostra plc depreciates all fixed assets on the straight-line basis of 3 years’ useful life.

The company usually requires a payback period of less than 2 years. The cost of capital is 10%. The following information is also available: After 1 year After 2 years After 3 years Discount factors 10% 0.909 0.826 0.751 The net present value of the product lines at a discount rate of 25% have been calculated as £124,600 (negative) for Lab-for-all and £142,840 (negative) for Game48. Required: (a) Calculate for each product: the payback period AND • the net present value (NPV) at the company’s cost of capital

(b) Present your arguments to the finance director of Giostra plc concerning acceptance (or not) of each project. Funds are available for only one product line. Your arguments should use the results from your calculations in (a) and a consideration of the advantages and disadvantages of each method of investment appraisal.

Answer rating: 100% (QA)

The payback period is the length of time it takes for an investment to generate enough cash to pay b... View the full answer