Determi CASE 10.1: HIND PETROCHEMIC, SSpacity is 9.5 metric ton. Tho government refinery has Sspacity of 9.5 metric ton, HPC has strategic intorost in Sint the refinery. As a part of its privatization policy Se contral government is willing to sell the refinery for Re 850 million. The company is in touch with the Srernment for the purchaso of the refinery for last fow months. ‘The corporate planning department of the company rofit from the refinery operation as given Profitability Projections (Bs million) _5730_3930_ 5870 3790 4500 1450, 1500 1850 1030 1210 760 770 1080 330 650 ‘Wegos and salaries ‘Selling and distribution coxa ‘Seterials and ‘Sasumables Sepreciation te office costs Survey costs Interest 180 270 290 200 230 1500 1500 1500 400 300 400 1500) 400 40 _ 750 750 750 _750 Frofit (loss) befurestae G50 7401 Less: Tax @ 35% 230260 0 og Profit after-tax 420 4800-620 210 1500 400 750 0 620 —240 According to the company appointed valuers, the sfinery would need an additional investment of Re 950 Zillion in machineries and Rs 800 million for working pital before starting the operations. According to the salter, if the company so desired, the refinery including ‘hose facilites (including working capital) could be sold £2286 5,800 million after the planning horizon offive years, 4 that case, the company will have to incur Rs 200 million & the end of the economic lifo of the refinery to clean tho saat PCr not ha Pure Drinks is in the business of packaged fruit juices. It steady produces and sells orango, apple and pineapple ices. Itintonds to increase its range of juices, The company. engaged a well-known marketing consultant to conduct & ‘sarket survey to find the scope for guava juice. The market Survey indicated tremendous scope for guava juice, and {hat the company could sell 900,000 sachets of guava juice each year. The Rs 5 million cost of the survey has not been Epping '9 Cash Flows for Investment Analysis 251 COMPANY site, The initial cost of valuers’ work was Rs 25 million ‘They will be paid an additional amount of Rs 15 million in the first year if the company buys tho refinery. ‘The company has a policy of charging deprectation on straight-line basis. Howover, for tax purposes, the WDV ‘eproctation on the black of assets applies, The depreciation ato is 25 per cent. Corporate overhead costs include the three-fourths costs as the corporate overhead allocations and one-fourth costs incurred by the corporate offics exclusively forthe proposed project ‘The company proposes to financo the projects mostly by raising a 5-year 10 per ont loan from a financial institution. The management of the company feels that the investmant in the refinery has the same risk and debt capacity as the current business: it ‘must yield a retuma of 15 per cent. The executives of the company are not unanimous on accepting the project. The financial controller's recommendation isto reject the project as it eames profits only ia the first two years of the five-year perfor. The provluction manager considers the location a8 a stategic ‘advantage since the company will have a plant in the West and could meet the demand easly. The markoting manager argues that the company should look at the investnignt's payback period. According to her, the deprociation included in the profit estimates is the recovery of the investment, and in addition, the company also has profit in the first fara ‘years. Discussion Questions 4 Should the project ba accopted? Use the most suitable ‘mothod of evaluation to give your recommendation and explicitly state your assumptions, Does your decision to accept the project change if You uso other methods of evaluation? Show Computations. Do you agree with the views of the financial controller, the production managor and the marketing manager? + Why do you think thatthe method chosen by you is {he most suitable method in evaluating the proposod investment? ‘Tho survey has also shown that for one 1-litre sachet of uava juice, consumers are not prepared to pay more thet Rs 65. The management accounting department of the company has estimated that the variable cost per sachet jwould be Rs 25, which includes material cost of Rs 6.30, labour cost of Rs 3.50 and overhead cost of Rx 5.00. At « ‘capacity of one million sachets, the fixed overhead cost per Met htnnnimtvelmsteau4 i