Question 3

The Pokémon company s investing in new production equipment r the manufacturing of scented candles costing an initial £750,000. It is anticipated that this equipment will be able to produce the following outputs in units over its expected life.

The costs and revenues for these candles are as follows:

• Selling price; in the first two years £5 per unit; in the secondtwo years £6 per unit and in the final year £7.50 per unit.

• Variable costs: for the first three years £3 per unit and in the final two years it will move to £3.50 per unit.

• Fixed costs; for the first three years £150,000 per year and in the final two years £200,000. These figures include depreciation based on the straight-line method with no residual value.

Required:

(a) Calculate the Net Present Value for the new equipment using a cost of capital of 10% and comment on your result. [show all workings to the nearest £]

(b) Discuss the factors that Pokémon may consider when arriving at a cost of capital of 10% for investment projects such as this.