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Hi John,
Apologies for the hassle. I am a bit confused with wordings of the this question.
“……..AGD Co has the accounting year that ends on 31 Dec. If the machine is purchased, payment will be made in January o the first year of operation. If leased, annual lease rental will be paid in January of each year of operation.”
Does this not suggest that this is all happening in period T1 as the year of operation would be T1.
Thanks
Jitin
Be careful.
T0 is ‘now’ which is the start of the first year.
T1 is in one years time, which is the end of the first year, and start of the second year.
T2 is in two years time, which is the end of the second year and start of the third year.
and so on.What matters for discounting, is not the calendar year, but whether the cash flow is one year from now, or two years from now (and so on). Because if it is one year from now there will be one years interest to discount for. If it is two years from now then there will be two years interest to discount for. And so on 🙂
Do please watch my lectures, on both investment appraisal in general and on lease and buy in particular.
My lectures are a complete free course for Paper F8 and cover everything needed to be able to pass the exam well 🙂Many Thanks.
Based on the lectures, my understanding was we go by the accounting period of the company.
So if the payment is in first year of operation, it should be classed in T1.
It looks like I am picking something wrong.
I don’t know whose lectures you are referring to, but my lectures on here certainly do not say that!
What I say in the lectures is that we normally assume that flows occur at the ends of year (so flows in the first accounting year are assumed to be in 1 years time – time 1), unless told otherwise.
The question you ask about lease and buy specifically says that the payment is made in January, which is the beginning of the year – this is normal for lease and buy questions and is exactly the same as in my lecture example on lease and buy. If the payment is made at the start of the first year, then the payment is at time 0.
Yes with you now.
The understanding of the timeline can be a bit tricky in these questions. Hopefully they don’t try and catch us out.
Many Thanks
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