Solution Library

Investment Decisions: Report To Board Of Directors

Question

 

Warden Limited (Warden) is a listed company based in the USA and manufactures electronic devices. One of its devices, the X‐IT, is designed exclusively for the North American market. In order to start the production, Warden plans to buy a new machine. The cost of the machine, payable immediately, is $800,000 and the machine has an expected life of five years. Additional investment in working capital of $90,000 will be required at the start of the first year of operation. At the end of five years, the machine will be sold for scrap, with the scrap value expected to be 5% of the initial purchase cost of the machine. The machine will not be replaced. Production and sales from the new machine are expected to be 100,000 units per year. Each unit can be sold for $16 per unit and will incur variable costs of $11 per unit. Incremental fixed costs arising from the operation of the machine will be $160,000 per year. Warden has an after‐tax cost of capital of 11% which it uses as a discount rate in investment appraisal. The company pays profit tax one year in arrears at an annual rate of 30% per year. Capital allowances and inflation should be ignored. Due to the uncertainty about economy, Warden is more concerned if the X‐IT can be sold at $16. Any change in price may have an impact on the success of the investment. Currently, securities market condition is not such good that fund may not be easily to get although Warden may use its internal source to support the investment.

Required:

Prepare a report for the Board of Directors of Warden Co that

a) Evaluate whether or not Warden Co should purchase machine to produce the X‐IT. Explain which evaluation methods should be the most appropriate. In the most appropriate evaluation, include all relevant calculations in the form of a financial assessment and explain any assumptions made.

b) Explain the difference between risk and uncertainty in the context of investment appraisal, and suggest how Warden can quantify the risk in change in selling price and comment on our findings.

c) The board heard about scenario analysis in a seminar but just know about the term. Briefly explain in the report how scenario analysis can be used to incorporate risk into the investment appraisal.

d) Discuss the nature and causes of the problem of capital rationing in the context of investment appraisal, and explain how this problem can be overcome in reaching the optimal investment decision for a company.

 

Summary

The question belongs to Accounting and it discusses about preparing a report addressing the board of directors of Warden Co. about purchasing a machine, the risk and uncertainty of the investment and also discusses about nature and causes of capital rationing in investment appraisal.

Total Word Count NA

Download Full Solution

Comments

  • HWA
    Rasha

    this is a very good website

  • HWA
    maani

    I have 50 questions for the same test your page is showing only 28

  • HWA
    joeanne

    hi can you please help or guide me to answer my assignments. thanks

  • HWA
    joeanne

    hi can anyone help or guide me to my assignments. thanks

  • HWA
    Monik


  • HWA
    Cristina

    This solution is perfect ...thanks

  • HWA
    Janete

    Hello Allison,I love the 2nd image that you did! I also, had never heard of SumoPaint, is something that I will have to exolpre a bit! I understand completely the 52 (or so) youtube videos that you probably watched. Sometimes they have what you want, sometimes they don't! However, it is always satisfying when you are able to produce something that you have taught yourself. Great job!Debra 0 likes

  • HWA
    Sandeep

    Perfect bank of solution. 

  • HWA
    Oxana

    great !

  • HWA
    Paul Brandon-Fritzius

    thanks for the quick response. the solution looks good. :)

  • HWA
    tina Johnson

    thnx for the answer. it was perfect. just the way i wanted it. 

  • HWA
    Giuseppe

    works fine.