Solstice Travel: Two Projects, One Budget
Solstice Travel, a online travel company in Southeast Asia, has two capital projects competing for approval and only $223 M of approved capital this year.
Project A — Automation upgrade. Requires $116 M upfront and is expected to generate $37 M of incremental after-tax cash flow per year for 6 years.
Project B — New production line. Requires $255 M upfront and is expected to generate $110 M per year for 6 years.
The company's hurdle rate is 14%.
Two complications. First, the finance team has already spent $15 M on engineering studies for Project B, and the COO argues this money "shouldn't be wasted". Second, Project B's cash flows depend on a customer contract that is signed but renews annually.
project a
- life years
- 6
- investment m
- 116
- annual cash flow m
- 37
project b
- life years
- 6
- investment m
- 255
- annual cash flow m
- 110
constraints
- hurdle rate pct
- 14
- capital budget m
- 223
- already spent on b studies m
- 15
Recommend how to allocate the capital budget. Provide:
- Analysis — NPV, IRR and payback for each project.
- Risks — including how you treat the engineering spend and the contract renewal risk.
- Recommendation — which project (or projects) to fund.
100 points, 60% to pass.
- assumptions20
- recommendation30
- risk assessment20
- financial analysis30
Reveal suggested structure
- NPV of each project using the annuity form: NPV = CF × [(1 − (1+r)^−n) ÷ r] − I₀
- IRR — the rate at which NPV = 0. Note that IRR alone misranks projects of different scale.
- Payback as a liquidity check, not a decision rule.
- Sunk cost — the $15 M is spent and irrecoverable. It must not enter the decision.
- Profitability index (NPV ÷ investment) when capital is rationed.
- Risk-adjust Project B for the annual renewal.