Finance



Item Name

Dodd Ltd is assessing a business investment opportunity, Project X, the estimated cash flows for which are as follows: / All of the above figures are expressed at 1 January 20X2 prices. Inflation is expected to operate at 5 per cent p.a. throughout the project’s life. The business’s ‘real’ (that is, not taking account of inflation) cost of finance is estimated at 10 per cent p.a....

Is it true that the ‘money’ rate of interest is equal to the ‘real’ rate, plus the rate of inflation? Explain your answer.

Lateral plc has a limit of £10 million of investment finance available to it this year, and it has the following investment opportunities available to it: / Assuming that the capital shortage relates only to the current year and that each project can be undertaken in part, with the NPV scaled down in direct proportion to the proportion undertaken, which projects should Lateral plc undertake?

Livelong Ltd has the continuing need for a cutting machine to perform a particular function vital to the business’s activities. There are two machines on the market, the Alpha and the Beta. Investigations show that the data relating to costs and life expectancy of each machine are as follows: / The two machines are identical in terms of capacity and quality of work. The relevant cost of finance...

Marine Products Ltd has identified three possible investment projects. Two of these would have to be started very shortly (year 0), the third in a year’s time (year 1). None of these projects can be brought forward, delayed or repeated. The estimated cash flows for the possible projects, none of which will generate cash flows beyond year 5, are as follows: / All of these projects are typical of...

Prentice Products Ltd’s products development department has just developed a new product, a cordless hair dryer for use in hairdressing salons. Were production to go ahead it would start on 1 January 20X1. Manufacturing the hair dryer would require the purchase of some new plant costing £500,000, payable on 31 December 20X0. At the end of 20X4, this plant would be scrapped (zero disposal...

What is meant by a ‘profitability index’? Is it a helpful approach to dealing with multiperiod capital rationing problems?

When inflation is predicted over the life of a project under assessment, there are two approaches to dealing with inflation. What are these? Which is the better one to use?

In problem 6.1, assume that the 2,000 level is the ‘best estimate’ of annual demand for Easton Ltd, and that only Machine A is available. (a) Should the business acquire Machine A on the basis of its NPV? (b) Carry out a sensitivity analysis on the decision recommended in (a).

It is possible to wager on the spin of a fair coin. This will pay out £100 if the coin lands head up and nothing if it lands tail up. What can you say about how much a risk-loving individual would be prepared to pay to enter the wager?