Marcal Corporation is considering foreign direct investment in Asia. The company
ID: 2716600 • Letter: M
Question
Marcal Corporation is considering foreign direct investment in Asia. The company estimates that the project would require an initial investment of $18 million. and generate positive cash flows of $3 million a year at the end of each of the next 20 years. The project's cost of capital is 13%. a. Calculate the project's NPV. b. The company thinks there is a 50-50 chance that the Asian country will impose restrictions on the company in one year. If the restrictions are imposed, cash flows will be $2,000,000 per year for 20 years. If restrictions are not imposed, cash flows will be $4,000,000 per year for 20 years. Cost of capital remains the same. In either case, the cost will remain at $18,000,000 and cost of capital at 13%. Calculate the value of the real option by waiting one year to decide. c. Apart from real options, discuss 3 qualitative factors that the company should consider when making its decision on accepting the new project.
Explanation / Answer
Environmental Concerns
Capital investments can have varying degrees of impact on the environment, and the more financially appealing options frequently have greater impacts than costlier options. Because of this, the quantitative factor of price can be at odds with the qualitative factor of environmental responsibility. A manager must consider the impact that any capital investment will have on the environment. When purchasing new trucks for a delivery fleet, for example, she should balance affordability and environmentally conscious design.
Ethical Considerations
Ethical concerns can inject a host of qualitative considerations into a capital-investment decision. Such considerations as employee safety, local employment and local air quality can all be affected by investments in new facilities and equipment, regardless of the financial benefits. Overhauling a production facility to automate manufacturing tasks while drastically reducing the staff, for example, can introduce greater cost efficiency and public animosity at the same time. Installing low-quality fire protection systems, as another example, can unnecessarily endanger employees on the job.
Product/Service Quality
Capital investments can be made to increase a company's capacity to produce goods or deliver services. This being the case, the quality of capital resources can directly affect the quality of goods or services. This is one area in which quantitative and qualitative factors can be at odds, as the least expensive options in the marketplace can generally be expected to yield the lowest quality. A manager should strike a balance between cost and quality in capital resources to maximize the investments' cost efficiency. Purchasing the cheapest vehicles for on-site technicians, for example, can lead to service interruptions due to vehicle breakdowns. Purchasing low-quality kitchen equipment in a restaurant, as another example, can diminish the consistency of prepared food.
Year Cash flow PV of annuity PV of cashflow 0 -18 1 -18 1 to 20 yrs 3 7.938 23.814 NPV of the project $ 5.814