Pender Ltd

question 42

Essay

Pender Ltd.is analyzing two proposals for cleaning contracts for the next 3 year period.The company has 200,000 square metres of floor space which is currently 75% occupied.It expects that occupancy will increase to 82% in year 2, and 90% in year 3.The proposal from Company A is as follows:
Six janitors will be used at a budgeted annual salary of $26,000/each.These salaries are expected to remain static over the 3 year period.One supervisor will be used at an annual salary of $38,000.Salary increases for the supervisor will be $1,500 per year.Indirect labour costs are at 12.5% of salaries.Indirect material costs will be at a rate of $0.20 per square metre occupied.Fixed costs of $7,200 per year will also be charged to Pender by the contractor.The proposal from Company B is as follows:
A rate of $1.40 per square metre occupied will be charged.In addition a part time supervisor will be required at an annual cost of $24,000 plus benefits at 15%.Fixed costs of $4,600 per year will be charged to Pender by Company B.No increases are forecast through the three year period.Additional information:
Company A is the existing contractor.If the agency does not choose Company A, it must pay Company A a flat $8,000 on termination of its services.This payment would be made immediately.Assume cash flows occur at the end of the year unless otherwise stated.The discount rate to be used is 6% and is not expected to change in the next 3 years.Required:
Evaluate these two proposals using the net present value method.

---

Definitions:

Market Value

The current market cost at which a service or asset is being bought or sold.

No Par Stock

Stock issued without a nominal or face value, where the value is determined by what investors are willing to pay for it.

Available-for-Sale Securities

Financial assets that a company intends to sell but not immediately, recognized on the balance sheet at fair value.

Fair Value

The estimated market value of an asset or liability, reflecting the amount for which it could be exchanged in an orderly transaction between knowledgeable, willing parties.