Pandalela Products manufacturers a variety of householdproducts. The company is considering introducing a new detergent.The company's CFO has collected the following information about theproposed product.
* The project has an anticipated economic life of 4 years.
*The company will have to purchase a new machine to producedetergent. The machine has an up-front cost (t=0) of RM 2million.The machine will be depreciated on a straight-line basis over 4years (that is , the company's depreciation expense will be RM500,000in each of the first four years (t = 1,2,3 and 4). Thecompany anticipates that the machine will last for four years, andthat after four years, its salvage value will equal zero.
* If the company goes ahead with the proposed product, it willhave an effect on the company's net operating working capital. Atthe outset, t=0, inventory will increase by RM 140,000 and accountspayable will increase by RM 40,000. At t=4, the net operatingworking capital will be recovered after the project iscompleted.
* The detergent is expected to generate sales revenue of RM 1million the first year ( t=1), RM2 million the second year (t=2),RM 2 million the third year (t = 3), and RM 1 million the finalyear (t = 4). Each year the operating cost (not includingdepreciation) are expected to equal 50% of sales revenue.
* The company's interest expenses each year will beRM100,000.
* The new detergent is expected to reduce the after tax cashflows of the company's existing products by RM250,000 a year(t=1,2,3 and 4).
* The company's overall WACC is 10%. However the proposedproject is riskier than the average project for Pandalela Products;the project's WACC is estimated to be 12%.
* The company's tax rate is 40%.
a. Determine the relevant cash flows for this project.
b. What is the internal rate of return of the project?
c. What is the net present value of the project?
d. Should the company proceed with the project? Why?
