Financial Accounting

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AFIN 253 Financial Management

Due: Monday 22nd October 12 Noon

This assessment is worth 20% of your final grade.

Viking Boats Pty Ltd

Bob Bradley is the owner and founder of Viking Boats Pty Ltd. Viking is a world leader in the production of luxury motor cruisers. Given the current focus surrounding pollution and global warming, Mr Bradley is considering the development of a hybrid luxury boat that will be able to be powered by diesel and electricity. Despite the expected success of the project, costs are expected to be quite large for the company, as it will require a great deal of new production equipment. Whilst the existing equipment can be used for the production of the boat hulls new machinery will be required for engine production. This new engine production machinery is expected to have an economic life of ten years, although Bob’s accountant believes it may well be still in good working order in 15 years. With this in mind the accountant says he will depreciate it over the full 15 years to dissipate these expenses over a longer period. He has recommended that any project evaluation also use this 15 year timeframe. It would cost Viking Boats $18,000,000 to purchase the machinery, $2,000,000 to have it delivered and a further $160,000 to have it installed. The installation costs are immediately tax deductible. The company has also spent $200,000 on a research report prepared by Olympic sailing gold medallist Tom Slingsby. This is also an allowable tax deduction. The taxation department has stated in a letter to Viking Boats that they will allow the equipment to be depreciated over its economic life of ten years on a straight-line basis. It is expected that current staff will not require any additional training. Given your success in Afin 253 Financial Management while studying at Macquarie University they have decided to employ you as an outside consultant to determine what would be the correct course of action for them to take. It is anticipated that if they produce this new boat that it will overlap with their existing Challenger range of mid size cruisers. This will mean that they can downsize to a smaller number of manufacturing machines for the Challenger and will sell one of their older machines. It would be most profitable to sell the 16 year old machine that originally cost $4,000,000 and should be able to be sold for $700,000. The tax allowable depreciation rate for this type of machinery hasn’t changed over the last 40 years; it is straight line down to zero value over 20 years. The waters around the Viking Boats factory are populated by a number of sharks due to the nearby tuna canning factory. Often boat trials result in capsizes of test models. To prevent this they have for many years employed James Theodore to scare away the sharks using high intensity lasers. James is paid $10,000 per year and will continue to be employed on this wage for many years to come. The new machine is expected to have a salvage value of $6,000,000 at the end of the projects’ economic life in year 10. The sales department believe the reduced sales from the Challenger will amount to around $2,500,000 p.a. for the life of the project.

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Revenue from sales of the new boat is expected to be $4,000,000 in year one and $6,000,000 in year 2. The revenue will increase by 5% per annum between years 3 and 5 then remain flat for the rest of the project's life. Electricity costs are expected to increase by $300,000 pa in years 1 to 4 and $320,000 pa in years 5 to 10 Material costs are expected to decrease by $104,000 pa. Head office costs of $10,000 are to be allocated from the existing Challenger production to the new boat. These are of course fully tax deductible. Given the size of the project it is expected that Viking Boats will borrow $20,000,000 at a government subsidised interest rate of 3.5%. Interest expense is tax deductible of course. Marketing costs are expected to be $900,000 in years 0 to 3 and $500,000 in years 4 to 9. Due to the increased production there will be an increase in the working capital requirements for the time the new machine is in use. This increase is expected to be 15% of the following year's increase in revenues. Assume that all amounts above are paid at the end of the year. The after-tax WACC used for projects of similar risk is 7.5%, given as a real rate. Treasury bonds yield around 4.5% p.a and pay semi-annual coupons of 8% pa. The firm's bonds pay semi-annual coupons of 5% pa and trade at a yield of 6% pa. The ASX200 trades at a 7% p.a. premium. All of the above rates are nominal rates except for the after-tax WACC, which is a real rate. The company tax rate is 30%. The firm maintains a constant debt to equity ratio of 40%. Inflation is expected to stay at 3% pa. All of the cash flows given are nominal. You are required to submit the following;

1. One page readable spreadsheet downloaded from iLearn clearly showing the NPV, Required Rate of Return, Payback Period and Internal Rate of Return of the project and all other calculations that are used to support your decisions. (20 marks)

Note: Questions about the assignment can only be asked via the discussion board in iLearn. Tutors and lecturers will not answer student questions as they relate to the assignment. Only one page should be submitted to BESS before the due date and time. Do not submit using more than one page and/or plastic sheets etc.

Damian Bridge� 10/10/12 11:56 AM Formatted: Font color: Red, Strikethrough