Air India, an aircraft manufacturing company, invested £200 million five years ago to build a factory for producing wing
Posted: Mon Jan 17, 2022 8:07 am
Air India, an aircraft manufacturing company, invested £200
million five years ago to build a factory for producing wing parts.
The factory is now ready. Over the next twenty years that it will
be operational, it is expected to generate £200 million in revenues
and £25 million in operating costs (including depreciation for the
assets, the cost of financing the project, etc). However, the board
of directors of the company is considering whether it is worth
investing in a new factory, which will adopt the latest
manufacturing technology. The new factory would yield £400 million
in revenues, £50 million in operating costs, and it would cost £200
million to build. If the old factory is abandoned, it would have £0
value to the company.
a. Calculate the accounting profit of the new factory.
b. Calculate the economic profit of the new factory. Should Air
India go ahead with the new project and why/why not?
c. Suppose that the company decides to go ahead with the
construction of the new factory. After the construction starts, the
construction company claims that building costs have increased from
£200 million to £300 million. Assuming that the old factory is
already scrapped at this stage, should the project still go ahead?
What could the company have done to protect itself from this
hold-up?
million five years ago to build a factory for producing wing parts.
The factory is now ready. Over the next twenty years that it will
be operational, it is expected to generate £200 million in revenues
and £25 million in operating costs (including depreciation for the
assets, the cost of financing the project, etc). However, the board
of directors of the company is considering whether it is worth
investing in a new factory, which will adopt the latest
manufacturing technology. The new factory would yield £400 million
in revenues, £50 million in operating costs, and it would cost £200
million to build. If the old factory is abandoned, it would have £0
value to the company.
a. Calculate the accounting profit of the new factory.
b. Calculate the economic profit of the new factory. Should Air
India go ahead with the new project and why/why not?
c. Suppose that the company decides to go ahead with the
construction of the new factory. After the construction starts, the
construction company claims that building costs have increased from
£200 million to £300 million. Assuming that the old factory is
already scrapped at this stage, should the project still go ahead?
What could the company have done to protect itself from this
hold-up?