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Greetings of the day,
I have come across a question that i dont know to solve. Hope you will help.
Regards,
Fasna.A vehicle distributor has the opportunity to buy some land on which to park vehicles that are awaiting delivery. The land would cost $1 million.
The benefits of this opportunity would be net positive cash inflows of $100,000 in year 1, $200,000 in year 2 and $250,000 every year in perpetuity from year 3 onwards.
The vehicle distributor’s cost of capital is 10%.
What, to the nearest thousand dollars, is the net present value of this opportunity?
how do you answer this?
Hi
Ok so Im assuming you are happy with the first cashflows
yr 0 1million outflow x 1 = (1,000,000)
y1 100,000 inflow x 0.909 = 90900
y2 200,000 inflow x 0.826= 165200The final bit the perpetuity from year 3 onwards.. will be added to the above.
Perpetuity would be calculated as 250,000/0.1 = $2,500,000
But this assumes there will be a receipt in year 1 and year 2 – if this isn’t the cas we need to deduct the present value of year 1 and 2 receipts from the total present value of the perpetuity$ 2,500,000
less
yr1 no receipt 250,000 x 0.909 = (227,250)
y2 no receipt 250,000 x 0.826 = (206,500)The value of the perpetuity will be $2,066,250
Add this to the NPV set out above should come to
yr 0 1million outflow x 1 = (1,000,000)
y1 100,000 inflow x 0.909 = 90900
y2 200,000 inflow x 0.826= 165200
yr 3 onwards 250k delayed perpetuity = 2,066,250NPV will be $1,322,350
Hope that explains ok
Kind Regards
CathHello,
I have very good working experience of using financial calculator when performing NPV, IRR and other TVM calculations.
What I have noticed is that sometimes results of using calculator vs. doing calculations manually do produce slightly different results.
Do you think that examiner will scope questions in such a way that using financial calculator could produce results which will not mach results examiner is expecting?
Can I use finical calculator for my TVM questions?
Hi there – good question & I understand what you mean.
However, remember for a CIMA exam – there are restrictions on the type of calculators you can take in with you – so one that calculates TMV or NPV is probably not permitted… check with the CIMA website for this.
In terms of the rounding – you can generally use the discount tables provided in the exam ( those factors themselves are rounded – but this is something the exam writers are aware of). Either they will write the questions in a way that rounding can’t cause an error eg by giving you multiple choice options to choose from.
Alternatively a small range of permissible final value answers will be accepted ( to allow for rounding).
Hope that helps.
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