Prepare the cash flow table (which incorporates taxes and includes initial investment, operating and terminal cash flows) for each chip crusher using the information given in the case. Which of the following items should be included as incremental cash flows in the table? Give reasons for individual items and list clearly your assumptions in deriving the figures. a) Yearly interest expense on the fixed-term loan for each machine; b) Working capital investment which is 10% of annual scrap revenue; c) Annual operating costs (i.e. overheads, salaries and marketing) for each machine; d) The $80,000 that was spent to rehabilitate the plan; e) Net income of $120,000 per year from the sales of unprocessed scrap; f) Rental income of $36,000 per year. [40 marks] 2. Which chip crusher (HCC or LCC) would you recommend Nova to purchase based on the payback period (PP), internal rate of return (IRR), net present value (NPV) and NPV to infinity methods? [Assume the company is able to invest in both chip crushers on the same terms indefinitely.] [17 marks] 4 3. Mr Murray requested risk analysis on the project so it is necessary to check which chip crusher (HCC or LCC) made financial sense before it is accepted. a) Show a sensitivity analysis of NPVs (derived in Question 2) to changes in annual processed scrap revenue and cost of capital individually. Assume each of these variables can deviate from its estimated value by plus or minus 20%. b) Determine how far the annual net operating cash flow could fall short of forecast before the chip crusher would be rejected. c) After reviewing the data provided, you realised the revenue and cost figures have not been adjusted for inflation which is another source of uncertainty. Some people were talking about a zero long-term inflation rate, but you wondered what would happen if inflation is 2.5% per annum. [28 marks] 4. Consider the recommendation by the plant manager to purchase LCC and to invest in the $100,000 5-year project. Assume the company is able to invest in this project on the same term indefinitely, and this project and HCC are mutually exclusive. What would be the additional contribution from this 5-year project? Would it affect your decision made in Question 2 in deciding between HCC and LCC? [10 marks] 5. Consider all information given in the case study and the results derived in Questions 1 to 4. Advise the executive committee and Mr Murray on whether they should invest in one of the two chip crushers (LCC or HCC) and the 5-year project. Discuss the reasons for your recommendation and any reservations you may have in given this advice. [10 marks] ****************** 5 Case in Finance Nova Tractor Corporation1 Nova Tractor Corporation owns and operates a transmission and axle plant which manufactures more than 50 percent of the transmissions and axles used in the complete line of tractors and harvesting equipment offered by Nova to the agricultural industry. With an extensive machining processes performed on the steel parts for the final transmission and axle assembly, a very large amount of steel shavings and bulky steel scrap is generated in this plant. The unprocessed steel scrap is sold as a by-product of the manufacturing operation to various firms involved in the recycling process. The executive committee is currently evaluating whether to process the scrap into different grades and types of usable steel. Using different models of chip crushers, the scrap is grinded and compressed into either "rough" or "fine" scrap. The fine scrap fetches a higher market price than the rough scrap. Nova has to decide whether to invest in the higher-cost chip crusher (HCC) to produce fine scrap or the lower-cost chip crusher (LCC) to produce rough scrap.