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Hi, I seem to keep failing F9 so I am trying your multiple choice questions as part of my revision, could you please go through the steps to this question:
A company has sales of $200m per year. Currently customers take 40 days to pay. The company is considering offering a discount of 1% for payment within 15 days and expects that 60% of customers will take advantage of the discount.
What is the effective annual cost of offering the discount?
I found the current receivables by using the calculation of $200m x 40/365=$21,917,808 but after this seemed to go wrong.
Also, I need help with the question:
A company has agreed to lease a machine for a period of 8 years, with an equal annual payments payable at the start of each year.
The NPV of the agreement at a rate of 10% is $52,000.
What is the annual lease payment (to the nearest $)?
Please help really want to pass this time.
Teena
First question:
This is a simple discount, and when you are asked for the effective cost you do not calculate current and new receivables.
For every $100 sales, if they do not give the discount they will receive $100 in 40 days.
If they do give the discount they will receive $99 in 15 days (i.e. 25 days earlier).So….if is effectively costing them $1 for every $99 received 25 days earlier.
So the effective interest is 1/99 x 100 = 1.0101% over 25 days.
To turn this into a yearly rate is is 1.010101^ (365/25) – 1 = 0.1105 or 11.05% p.a.If the lease payment is X per year, then the flows are:
0 X
1-7 XThe present value of X at time 0 is X
The present value of X at times 1 to 7 is X x the 7 year annuity factor = X x 4.868So the total PV is X + 4.868X = 5.868X
From the question, this is equal to 52,000
So X = 52,000 / 5.868
Hope that helps 🙂
Hi, recalculated your answer for my question one and found 15.80% because you were suppose to divide 365 by the 25 before you raise the interest.
Also could you please explain this question to me I seem to be going wrong somewhere:
PQR has demand of 7500 per month. Each unit costs $5, ordering costs are $100 per order and annual holding costs are 10% of purchase costs. Lead time is 30 days between placing an order and receiving a delivery. If they order EOQ each time, at what level of inventory should a new order be placed (to nearest unit).Already found EOQ to be 6000 but seem to be messing up with reorder level calculation.
Also a company has three projects which are divisible their Initial costs and NPVs are:
Project A Initial Cost – 20000 NPV 2000
Project B Initial Cost – 30000 NPV 2400
Project C Initial Cost – 10000 NPV 1200Available capital is 40000
I got PIs as follows:
Project A 1.1
Project B 1.08
Project C 1.12When ranking these, what would I have to do in order to find the maximum NPV achieved if I can only do part of a project.
Question 1:
For the reorder level, the EOQ is not relevant.
We simply need to make sure that we reorder when we have enough left to last us during the lead time (otherwise we will run out of inventory before the new order is received).
Because it takes 30 days to get the new order, we need to reorder when we have enough to last 30 days. We are selling 7500 a month, which means that we are selling
7500 x 12 / 365 per day.So…..the level at which we will reorder is 30 x the number we are selling each day.
Hope that makes sense 🙂
Question 2:
You will invest as much as you can in C (the highest), which is the full 10,000.
This leaves us with 30,000 to invest.
So now invest as much as you can the next best – A – which is 20,000.
That leaves us with 10,000
Now invest as much as you can in the next best – B – which is only the remaining 10,000.
So we will receive the full NPV’s from C and A, but because we are only able to invest in 1/3 of B we will only receive 1/3 of its NPV.
(You might find my free lecture on Capital Rationing helpful on this)
Took me a while to figure out the EOQ question, but once I saw where I was going wrong it made sense.
Thanks
Hi this is a topic area that has always flustered me a bit perhaps you could help with this ques:
A machine costs $72000, has a max life of 3yrs and running cost each year are:
Y1 – 7200
Y2 – 9600
Y3 – 12000
Estimated scrap values are:
Y1 – 24000
Y2 – 16600
Y3 – 9300
Cost of Capital 15%What is the equivalent annual cost if company decided to replace the machine every 2yrs
Have you watched the free lecture on this?
Since it is 2 year replacement, the first step is to calculate the present value for one machine.
The flows are an outflow of 72,000 at time 0; an outflow of 7,200 at time 1; and a net inflow of 16,600-9,600 = 7,000 at time 2.
You discount these flows at 15% to get the PV.To get the equivalent annual cost, you divide this PV by the 2 year annuity factor at 15%.
I do think you will find the free lecture useful – I work through an example and explain the steps and the logic.
Hi John,
Extracted a qn from MCQ section. Would appreciate if you could help me on this.
Share price is $5.20 at end of the year, which is $0.60 higher than it was at start of the year. During the year, dividend of $0.45 per share was paid.
What’s the total shareholders return over the year?I calculated div yield (0.45/5.20) which obviously is incorrect. Please help.
Thank you
Two things:
Firstly, the total return should be based on the share price at the start of the year which is $4.60 (5.20 – 0.60).
Secondly the total return is the dividend plus the capital gain, which is 0.45 + 0.60 = $1.05.So in percentage terms, the return is 1.05/4.60 x 100% = 22.83%
Hi John,
Could you please help on this qns:
A company has jus paid a dividend of $0.23 per share
Shareholders are expecting the dividend to remain at $0.23 per share next year,but to increase at an average rate of 3% per annum thereafter.
Shareholder required rate of return is 12% and the rate of corporation is 25%What will be th current market value per share?
Thank you!
You use the growth model formula.
The expression on the top of the formula (Do(1+g)) is the dividend in 1 years time.
Usually it is as the formula has it – the current dividend x (1+g).However, since the dividend is staying constant at 23c next year, you use 23c on top of the formula.
So the market value is 23/(0.12 – 0.03) = 256c or $2.56
Dear John,
Could you please help me? I have a problem calculating the no. of days for this qn.
Demand of 7500 units per month. Each unit cost $5. Ordering cost is $100. Inventory holding cost is 10% of purchase price per year.
There is a lead time of 30 days between placing an order and receiving the delivery.
if they order the EOQ each time, how frequently will they place an order (to the nearest days)?
Thank You
Dear John,
Need help with this MCQ.
Investment project costs $160,000. Has an expected life of 4 years and expected scrap value is $20,000. The anticipated CF as follows:-
Year 1: $40,000
Year 2: $60,000
Year 3: $80,000
Year 4: $20,000Cost of capital is 10% p.a
What is the payback period for this investment?
* I assumed its discounted payback but I still cant get the answer.
Please help.
Thank you
Why did you assume it is the discounted payback period? It is only the discounted payback period if it is asked for. This question asked for the payback period.
After 2 years they have had back 100,000. The need another 60,000. Since the third year gives 80,000 it will be 6/8 of the third year.
i.e. 2 years and 9 months.
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