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Hi John, can you please help me on this particular question:
Year 1 Year 2 Year 3
$m $m $m
Profit before interest and tax 3 2.7 2.4
Asset base 24 25 26Special purpose machine (proposed project)
Capital expenditure in year 1 and 2, followed by operating cash flow in year 3:
Year 1 Year2 Year3 NPV
$m $m $m $m
-.5 -.5 2 .634
I was thinking that in year 1 profit will reduce by .5 and asset increase by .5 to give ROI of 10.6%Target ROI is 10%
The question is asking for ROI for each year?You are correct that in year 1 the asset base will increase by .5, but why should the profit reduce?
The only profit effect will be year 3 because of the operating cash flow.The only problem is that of depreciation because in year 3 there is an operating cash flow, whereas we want the profit after depreciation. I don’t know if the question makes any mention of the depreciation (or is it assumed that the project only lasts 3 years?)
Also, your columns have come out a bit funny above, but you mention NPV. In paper F5 she cannot expect you to understand NPV.
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