Assignment: 2014-05-22 Solution

Problem 1 [0]
Borrow or not?

Solution:
(a) 100% Equity financing
The MARR = 8,5% is known.
=> Determine PW at the MARR.

PW = −R250 000 + R15 000 × (P/A; 8,5%; 15) 3

= −R250 000 + R15 000 × 8,304 2
= −R−125 437 33

Conclusion: 100% equity does not meet the MARR requirement 3

(b) 60%-40% D-E financing

Loan principal = R250 000 × 0.60

= R150 000
Loan payment = R150 000(A/P ; 9%; 15)
= R150 000 × 0,124 1%
= R18 615/year

Cost of 60% debt capital is 9% for the loan.

WACC = 0,40 × 8,5% + 0,40 × 9%

= 8,8% 3
MARR = 8,8%
Annual NCF = project NCF − loan payment
= R−3 615
Amount of equity invested = R250 000 − R150 000
= R100 000
P W = −R100 000 + R−3 615(P/A; 8,8%; 15) 3
= −R100 000 + R−3 615 × 8,156 7
= −R100 000 + R−29 486
= −R129 486 3

Conclusion: 60% debt-40% equity mix does not meet the MARR requirement 3 .

(c) The 100% Equity mix is bad, but better than the 60% debt-40% Equity mix. 33

Problem 2 [8]
The committee on the scale

1. Flexibility[f] The most important factor

2. Safety[s] 50% as important as uptime
3. Uptime[u] One-half as important as flexibility
4. Speed[v] As important as uptime
5. Rate of Return[r] Twice as important as safety

Use these statements to determine the normalised weights if scores are assigned between 0 and 10.

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 Assignment: 2014-05-22 Solution

Solution:
Normalised:
10 ≥ f, s, u, v, r ≥ 0
10
f > s, u, v, r fn = = 0,363 6 3
27.5
2×s=u 5
un , vn , sn = = 0,181 8 333
2×u=f 27.5
2.5
u=v sn = = 0,090 9 3
27.5
r =2×s
Choose Test:

f = 10 3 X 10 + 3 × 5 + 2.5
fn , sn , un , vn , rn = =1
then 27.5
10 10 ≥ fn = [0,363 6]
u, v = =5
2 = 2 × {un , vn , rn }
u
s = = 2.5 = [0,181 8]
2
r =2×s=5 = 2 × sn = [0,090 9] ≥ 0
X
f, s, u, v, r = 10 + 5 + 5 + 2.5 + 5 33
= 27.5

Problem 3 [8]
Economic service life

Solution:
(a) (4 marks) Determining the ESL:

For n = 1 :
AW1 = −100 000(A/P ; 18%; 1) − 75 000 + 100 000(0.85)1 (A/F ; 18%; 1)
= −100 000 × 1,180 0 − 75 000 + 85 000 × 1,000 0
= −108 000
For n = 2 :
AW2 = −100 000(A/P ; 18%; 2) − 75 000 − 10 000(A/G; 18%; 2) + 100 000(0.85)2 (A/F ; 18%; 2)
= −100 000 × 0,638 7 − 75 000 − 10 000 × 0,458 7 + 72 250 × 0,458 7
= −110 316

=>ESL is 1 year with AW1 = −108 000.

(b) (4 marks) Determining a rough better price:
Set the AW6 equal to AW1 = −108 000 and solve for P, the required lower first cost.
AW6 = −108 000 3
= −P (A/P ; 18%; 6) − 75 000 − 10 000(A/G; 18%; 6) + P (0.85)6 (A/F ; 18%; 6) 3
−108 000 = −P × 0,285 9 − 75 000 − 10 000 × 2,025 2 + P × 0,377 1 × 0,105 9
0,246 0P = −95 252 − (−108 000)
=> P = 51 821 33

The first cost would have to be reduced from R100 000 to R51 821. This is a quite large reduction.

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 Assignment: 2014-05-22 Solution

Problem 4 [8]
When is the price right?

Fixed cost, R’000 Variable cost, R/Unit

Administrative 30 Materials 2 500
Salaries and benefits: 20% of 350 Labour 200
Equipment 100 Indirect Labour 2 000
Space,etc. 55 Subcontractors 600
Computers: 13 of 100 Misc cost 200

Solution:

FC = R288 333
v = R5 500/unit

(a) (4 marks) Calculate revenue per unit to break-even

Profit = (r − v)Q − F C
0 = (r − 5 500)5 000 − 288 333 3
288 333
r − 5 500 = 3
5 000
r = R5 558/unit 33

(b) (4 marks) Calculate revenue per unit to achieve turnover

Profit = (r − v)Q − F C
500 000 = (r − 5 500)(5 000 + 3 000) − 288 333 3
500 000 = (r − 5 500)8 000 − 288 333
(r − 5 500) = (500 000 + 288 333)/8 000 3
r = R5 599/unit 33

Problem 5 [8]
Buy or make?

Indirect Costs
Direct
Basis Allocated Material
Department Rate/h Labour
Hours Hours Cost
Cost
A Labour 10 25 000 200 000 200 000
B Machine 5 25 000 50 000 200 000
C Labour 15 10 000 50 000 100 000
300 000 500 000

Solution: For making the components in-house, the AOC is comprised of direct labour, direct material, and
indirect costs. Use the data of the table to calculate the indirect cost allocation.

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 Assignment: 2014-05-22 Solution

Department A: 25 000 × 10 = 250 000

Department B: 25 000 × 5 = 125 000
Department C: 10 000 × 15 = 150 000
Total = 525 000 3
AOC = 525 000 + 300 000 + 500 000 3
= 1 325 000 3

The make alternative annual worth is the total of capital recovery and AOC

AWmake = −FC(A/P, i, n) + salvage(A/F, i, n) − AOC 3

= −2 000 000(A/P, 15%, 10) + 50 000(A/F, 15%, 10) − 1 325 000
= −2 000 000 × 0,199 3 + 50 000 × 0,049 3 − 1 325 000
= −1 726 065 33

Currently, the carafes are purchased with an AW of:

AWbuy = −1 500 000

It is cheaper to purchase, because the AW of costs is less. 33

Problem 6 [18]
What percentage?

Solution: Given information:

Value Units Value Units
Phase I (PCap) 1,8 Mega ton Fixed Cost I 40 Rm
Phase IIA 3,6 Mega ton Fixed Cost II 80 Rm
Phase IIB 5,4 Mega ton First Cost I 800 Rm
Production Cost (PC) 150 R/ton First Cost II 700 Rm
Production Revenue (PR) 500 R/ton Remediation Cost 90 Rm
gR (Revenues) −3% per year Investment Rate (r) 15% per year
gC (Costs) 3% per year Borrowing Rate (k) 16% per year
Periods 12 years

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 Assignment: 2014-05-22 Solution

Calculations: (without formula)

n Year Invest Revenue Cost Profit CF FW+ PW- Mark
2012 -266 -266,667 -266,667 3
1 2013 -266 -266,667 -229,885 3
2 2014 -266 -266,667 -198,177 3
3 2015 900,000 310,000 590,000 590,000 1804,823 3
4 2016 873,000 318,100 554,900 554,900 1476,045 3
5 2017 846,810 326,443 520,367 520,367 1203,640 3
6 2018 -700 821,406 335,036 486,369 -213,631 -87,683 3
7 2019 -700 796,764 343,887 452,876 -247,124 -87,440 3
8 2020 1545,721 706,008 839,713 839,713 1277,099 3
9 2021 2249,024 1047,182 1201,842 1201,842 1589,436 3
10 2022 2181,554 1076,198 1105,356 1105,356 1271,159 3
11 2023 -90 2116,107 1106,084 1010,023 920,023 920,023 3
P
9542,227 -869,851 33
FW+
−P W − 10,970 33
ERR= 24,33% 33

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