(a) Explain and illustrate (using simple numerical ...
(a) Explain and illustrate (using simple numerical examples) the Accounting Rate of Return and Payback approaches to investment appraisal, paying particular attention to the limitations of each approach. (6 marks)
(b) (i) Explain the differences between NPV and IRR as methods of Discounted Cash Flow analysis. (6 marks)
(ii) A company with a cost of capital of 14% is trying to determine the optimal replacement cycle for the laptop computers used by its sales team. The following information is relevant to the decision:
The cost of each laptop is £2,400. Maintenance costs are payable at the end of each full year of ownership, but not in the year of replacement e.g. if the laptop is owned for two years, then the maintenance cost is payable at the end of year 1.
Interval between Trade-in Value (£) Maintenance cost (£) Replacement (years)
1 1200 Zero
2 800 175 (payable at end of Year 1)
3 300 150 (payable at end of Year 2)
Required:
Ignoring taxation, calculate the equivalent annual cost of the three different replacement cycles, and recommend which should be adopted. What other factors should the company take into account when determining the optimal cycle? (8 marks)
(20 marks)
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