Revised statement of incremental cash flows

Table: Cash Statement (000)

The following further information is available to you:

·         Included in the cost of equipment is £100,000, which is the book value of an old machine. If it was not used for this project it would be scrapped with a zero net realisable value. New equipment costing £500,000 will be purchased on 31 December 2011. Assume that all other cash flows occur at the end of the year to which they relate.

·         The development costs of £90,000 have already been spent.

·         Overheads have been allocated at 50% of direct labour, which is the company’s normal practice. An independent assessment has suggested that incremental overheads are likely to amount to £30,000 per year.

·         The company’s cost of capital is 14%.

Required:

(a)Prepare a revised statement of incremental cash flows (or relevant cash flows)  arising from the project and where you have changed your assistant’s figures attach a brief explanation justifying why you did it; 

(b)  Management in the past have used the payback method to analyse new projects. Calculate the payback period for this proposed project and discuss the advantages and disadvantages  of using this project appraisal technique, and discuss how this project appraisal approach may be improved;

(c)Using all the information available, calculate the net present value (NPV) of this project and compare and contrast your results with those obtained with the payback method used above and state your recommendation on its viability.