QUESTION FOUR

$(25$ Marks$)$

Springboks Limited is looking to expand its operations and increase its market share in the cell phone industry.

To achieve this, they are looking to increase its current productive capacity of $1000000$ cell phones a year by

at least $6\%$ for each of the next $5$ years. It is considering two cell phone making machines and is unsure which

to purchase:

Cell Phone Machine ABC:

Cell Phone Machine ABC can be imported at a landed purchase cost of R$1600000$ and a further R$400000$

transport and installation costs will have to be incurred to get it ready for production. This machine is expected

to last $5$ years after which time it cannot be sold. Net cash flow from the sale of the additional production is

expected to be R$440000,$ R$560000,$ R$800000,$ R$820000$ and R$400000$ respectively over the $5-$year lifespan

of the machine. This machine will enable Springboks Limited to achieve a $4\%$ increase in productive capacity.

Cell Phone Machine XYZ:

Cell Phone Machine XYZ can be purchased locally for R$2000000$ and will also have a useful life of $5$ years. It

will not have any resale value at the end of the $5$ years and will be disposed of$.$ Net cash inflows from additional

production will amount to R$600000$ per annum for each of the five years. This machine will enable Springboks

Limited to achieve a $2\%$ increase in productive capacity.

Additional information:

Springboks Limited requires a return on capital of $15\%$ for all investments made. The depreciation policy

is to depreciate all non$-$current assets on a straight$-$line basis. Assume that all cash flows occur at the

end of each financial year except for the initial investment which occurs in period $0.$

The capital expenditure committee has indicated that R$4000000$ is available for this capital expenditure.

In terms of the company' s capital expenditure policy, only projects with a payback period of less than

four years are accepted.

REQUIRED

You are the financial manager at Springboks Limited and have been asked by the Board of Directors to advise

them on which machine$/$s to authorise for purchase. Using appropriate capital budgeting techniques compile a

report to the Board of Directors detailing the option that should be chosen.