[furgus]

Thank you. That’s what I thought but then a little doubt crept in.

[furgus]

Thanks. It was questions with gearing calculated using market values that confused me. They don’t make it clear whether we should answer based on the theoretical price of the share after the issue or not. I think I’ll stick with the theoretical answer unless it’s obvious they don’t want that.

[furgus]

I’m glad it balances now. I’m not sure whether it’s meant to be like that or not, possibly an ommission as I don’t think it told you to complete the entries, did it? It might be worth reporting it, I’m not sure if the tutors monitor this forum. There’s a contact button at the bottom of this page.

[furgus]

Transaction 5 says that suppliers are paid what they are owed and $100 is paid for rent. Credits of $5,000 and $100 are showing on cash but there should also have been a debit of $5,000 put to suppliers which would result in a zero balance on suppliers and a debit of $100 for rent. If you add these the trial balance will balance.

[furgus]

Thanks. The book didn’t even cover that much detail and then a question popped up on it which made me nervous.

[furgus]

I assume you’re ok with calculating reducing balance depreciation but you need help with calculating the monthly reducing balance depreciation rate from the annual rate.

If the monthly rate is x% then

after 1 month the NBV is 22,000 x (1-x%),
after 2 months the NBV is 22,000 x (1-x%) x (1-x%) = 22,000 x (1-x%)^2
…..
after 12 months the NBV is 22,000 x (1-x%)^12

This must be equal to the NBV after 1 year which is 22,000 x (1-15%)

So, 22,000 x (1-x%)^12 = 22,000 x (1-15%)

Which you can rearrange to get

x% = 1 – (1-15%)^(1/12) = 1.3452%

[furgus]

No problem. I’m glad it helped.

[furgus]

The way I set these out is the diagram below, I’ll explain what I do so you will hopefully understand it.

I draw a cross through with a total at the ends of the lines – that’s a line from 6% through L+4% with the total, L + 10%, at the end and one from 7% through L+2% with the total, L+9%, at the end. As below but I can’t put the diagonal lines in.

I know that L + 9% is the lower of the two so that is the amount that they will have to take out (T/O) with the bank so I put T/O next to the rates that were combined to make up that total (i.e. on that diagonal line).

The difference between the two totals is 1% so I note that underneath along with the split. In this case we’re not told so I do a 50:50 split.

I put E/R (Effective rate) next to the rates on the other diagonal line. It doesn’t make sense initially for the higher total to be the effective rate but you’re going to deduct the saving from these figures which will reduce it. Therefore, I make a note of the saving under each ‘E/R’ rate.

You can then see that the effective rate are :-
A : L + 4% – 0.5% = L + 3.5%
B : 6% – 0.5% = 5.5%

That’s D – I think you have a typo with 3.75%, it should be 3.5%

——————————

…………..Fixed………………….Variable………L + 10% (higher E/R)

A………..7% (T/O)……………….L + 4% (E/R)
………………………………………..-0.5% (saving)

B………..6% (E/R)……………….L + 2% (T/O)
………….-0.5% (saving)
…………………………………………………………L + 9% (lower T/O)

Saving = 1%, 0.5% to each company

[furgus]

If you’ve any specific questions I’m happy to have a look and try to help explain them. That’s if I understand it myself, I’ve also had trouble with these but I think I’m getting the hand of them now.

[furgus]

For Buryecs Co, you’ve decided that they’ll borrow at 4% fixed. Their Net result will be the variable rate they could have borrowed directly from the bank, less the gain they’ve made by taking the swap

Net result Buryecs Co = Bank rate + 0.6% – 1.2% = Bank rate – 0.6%

For Counterparty, you’ve decided they’ll borrow at Bank rate + 0.4%. Their Net result will be the fixed rate they could have borrowed directly from the bank, less the gain they’ve made by taking the swap

Net result Counterparty = 5.8% – 0.8% = 5%

I hope this helps.

[furgus]

I think the solution could be wrong on this one so maybe you understand it better than you thought?

The solution has L + 1.5% as the variable rate borrowing for both company A and company B but the question gives L + 1% for the variable rate for company A. Assuming it is the solution that is wrong, working through I got the saving to be 0.5% rather than 1% so 0.25% saving for each company. The final table I got was

……………………………………A………………….B
Borrows…………………….(10%)…………(L + 1.5%)
A pays B variable………….(L)…………………L
B pays A fixed…………….9.25%…………(9.25%)
Outcome……………….(L + 0.75%)……..(10.75%)

[furgus]

I’ll explain this by putting some numbers in the equations so it’s hopefully clearer.

Labour: 2X + 4Y = 192
Materials: 4X + 2Y = 300

What you need to do at the end is take away one equation from the other and end up with only one unknown, either X or Y. In this example the labour equation was multiplied by 2 so the labour equation became (2 x 2)X + (4 x 2)Y = 192 x 2 or 4X + 8Y = 384 so they’ve got the multiple of X in both equations to be the same (4X). . The two equations are now as below and you can see if you take away one from the other the X variable disappears.

Labour: 4X + 8Y = 384
Materials: 4X + 2Y = 300

Labour – Materials
(4X + 8Y) – (4X + 2Y) = 384 – 300
4X – 4X + 8Y – 2Y = 84
0X + 6Y = 84
Y = 84 / 6 = 14″

In this case it’s easy to spot that you can multiply or divide either of the equations by 2 and you’ll then be able to take one equation from the other to get an equation with just one unknown.

If you have more complicated figures it might not be as easy to see what to multiply or divide the equations by so you could use a slightly longer method that will always work. The labour equation has 2X so divide this equation by 2 so that it become X. The materials equation has 4X so divide this equation by 4 so that it also becomes X. Basically, whatever the multiple of X is, you should divide the whole equation by this amount.

Labour: 2X + 4Y = 192
Labour: X + ( 4 / 2 ) x Y = 192 / 2
Labour: X + 2Y = 96

Materials: 4X + 2Y = 300
Materials: X + ( 2 / 4 ) x Y = 300 / 4
Materials: X + 0.5Y = 75

Now, as above you can take one equation away from the other and end up with just one unknown

Labour – Materials
(X + 2Y) – (X + 0.5Y) = 96 – 75
X – X + 2Y – 0.5Y = 21
0X + 1.5Y = 21
Y = 21 / 1.5 = 14

As you see the answer is the same, however you choose to multiply the equations you’ll end up with the same solution. In this case Y = 14 which you can then put back into one of the equations to calculate X.

Labour: 2X + 4Y = 192
Labour: 2X + 4 x 14 = 192
Labour: 2X + 56 = 192
Labour: X = ( 192 – 56 ) / 2 = 68

[furgus]

I’m starting to doubt my understanding again. This looks like the free cash flow to debt holders is interest less tax on that interest (at the business rate of tax) which seems odd. If you don’t put the 34 there where else would you put it?

[furgus]

I tried to lay the calculations out clearly but it deleted my spacing so it’s not at all clear. I hope you can see what I was trying to do.

[furgus]

I’ve found a pdf on the CIMA website – Company valuations and free cash flow for students of F3.pdf

which explains how to deduct tax in each case

When calculating Free cash flow to all investors you
Deduct Tax (excluding tax relief on interest) (PBIT x tax rate)

which is what you have in the solution (apologies for questioning this previously)

When calculating Free cash flow to equity you
Deduct Tax for the year (PBIT – interest) x tax rate

I think maybe the tax saving on interest should be added after the Free cash flow to all investors line, in a sense that you can’t have a tax saving on interest until you’ve deducted the interest. I’ve put the two calculations below so it’s clear. I think it must be in there somewhere because of the different way each free cash flow calculation deals with the tax deduction. Does this make sense?

$000s
Profit before interest and tax (operating profit) 935
Less: Tax (20% x (935-170)) (153)
Add: Depreciation (non-cash) 120
Less: Investment in non-current assets (420)
Less: Investment in working capital (185)
Less: Interest (170)
——–
FREE CASH FLOW TO EQUITY 127
——–

$000s
Profit before interest and tax (operating profit) 935
Less: Tax (20% x 935) (187)
Add: Depreciation (non-cash) 120
Less: Investment in non-current assets (420)
Less: Investment in working capital (185)
——–
FREE CASH FLOW TO ALL INVESTORS 263
Less: Interest (170)
Add: tax saving on interest (20% x 170) 34
——–
FREE CASH FLOW TO EQUITY 127
——–

[furgus]

Hi, I apologise if I’m not supposed to answer as I’m not a tutor but I think I can help with this.

The learning curve formula gives y as the average time to make each of the x widgets so you can multiply it by x to get the total time to make x widgets.

yx= total time to make x widgets =a.x^-0.23.x
=a.x^(1-0.23)
=a.x^(0.77)

Now you have the total time worked in that first week to make those 2000 widgets and you’re told that “The labor hours were fully utilized” and “No additional labor hours are available in short term” so you can assume that the same number of hours are worked in the second week.

If you put the total hours available in two weeks on the left of this new formula you can rearrange it to calculate x, the total widgets made in two weeks and then it’s simple to work out how many of them were made in the second week.

[Author]

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