One-Village Water Resources Ltd (One-Village) is considering a damming and irrigation project that will supply water to tomato farms around the Oti River. One-Village plans to commence the construction and installation phase of the project immediately and complete it in three years’ time. One-Village will invest GH¢3 million in new plants and equipment now. Mobilisation to the project site will cost GH¢0.5 million now. Development costs are expected to be GH¢3 million in the first year, GH¢4 million in the second year and GH¢2 million in the third year.

The commercial phase of the project will commence in the fourth year and run indefinitely. The project will generate after-tax net cash flows of GH¢6 million in the fourth year and GH¢8 million in the fifth year. Beyond the fifth year, cash flows will grow by 5% every year to perpetuity.

One-Village has 10 million shares outstanding, which are currently trading at GH¢3.5 each. The total value of its debt stock is GH¢20 million. One-Village plans to finance the investment requirements of the construction and installation phase of the project with new debt. Its borrowing cost is 20% while its cost of equity is 25%. Currently, the Government of Ghana is
promoting large-scale farming to provide food and jobs. The Government of Ghana is encouraged by this project, and so is willing to give a subsidised loan of up to GH¢10 million at 15% annual interest to One-Village to help finance the project. One-Village plans to take up the maximum of the subsidised loan from the Government of Ghana and finance the balance with a bank loan. Issue costs, which are tax-deductible outgoings, are expected to be GH¢0.6 million. Both loans will be repaid in five years’ time.

One-Village falls into the 22% corporate income tax category. The risk-free interest rate is 14% and the return on the market portfolio is 18%.
Required:
Evaluate the project using the adjusted present value technique and recommend whether it should be implemented or not.                                                                                                                                                                                                      (12 marks)

ABC Manufacturing Ltd (ABC) is an indigenous Ghanaian company that manufactures components used in air conditioners. The company now wants to manufacture air conditioners for sale in Ghana. Though the manufacture of air conditioners will be a completely new business, directors of ABC plan to integrate it into the company’s core business.
ABC has premises it considers suitable for the project. This premises was acquired two years ago at the cost of GHS50,000. ABC will acquire and install the needed machinery immediately, so production and sales can commence during the first year. The directors of ABC intends to develop the project for five years and then sell it to a suitable investor for an after-tax consideration of GHS20 million.

The following data are available for the project:
1. The cost of acquiring and installing plant and machinery needed for the project will be GHS5 million at the start of the first year. Tax-allowable depreciation is available on the plant and machinery at the rate of 30% on reducing balance basis.
2. Working capital requirement for each year is equal to 10% of the year’s anticipated sales. ABC has to make working capital available at the beginning of the respective year. It is expected that 40% of working capital will be redeployed to other projects at the end of the fifth year when the project is sold.
3. It is expected that 2,000 units will be manufactured and sold in the first year. Unit sales will grow by 5% each year thereafter.
4. Unit sales price is estimated at GHS2,200 in the first year. Thereafter, the unit sales price is expected to be increased by 10% each year.
5. Unit variable cost will be GHS1,100 per unit in the first year. Unit variable cost is expected to increase by 8% each year after the first year.
6. Fixed overhead costs are estimated at GHS1·5 million in total in each year of production/sale. One-half of the total fixed overhead costs are head office allocated overheads. After the first year of production/sales, fixed overhead costs are expected to increase by 5% per year.

ABC Ltd’s pays tax at 25% on taxable profits. Tax is payable in the same year the profit is earned.
ABC Ltd uses 25% as its discount rate for new projects but the directors feels that this rate may not be appropriate for this new venture.
Currently, ABC can borrow at 500 basis points above the five-year Treasury note yield rate. Ghana’s government is enthused by the venture and has offered ABC a subsidised loan of up to 60% of the investment funds required at an interest rate of 200 basis points above the five-year Treasury note yield rate. ABC plans to use debt capital to finance the project by taking advantage of the government’s subsidised loan and raising the balance through a fresh issue of 5-year debentures. Issues costs, which can be assumed to be tax-deductible expenses, will be 5% of the gross proceeds from the debenture offer. The financing strategy for the project is not expected to affect the company’s borrowing capacity in any way.
ABC Ltd will be the first indigenous Ghanaian company to manufacture air conditioners in Ghana. However, it will be competing with XYZ Ltd, a listed company with majority shares held by foreign investors. The cost of equity of XYZ Ltd is estimated to be 20% and it pays tax at 22%. XYZ has 10 million shares in issue that are trading at GHS5.5 each, and bonds with total market value of GHS40 million.
The five-year Treasury note yield rate is currently 10% and the return on the market portfolio is 18%.

Required:
Evaluate, on financial grounds, whether ABC should implement the project or not.                                                       (20 marks)