Financial Analysis & Investment Calculations
1. Compound Interest Calculation
Jack places $800 in a savings account paying 6% interest compounded annually. He wants to know how much money will be in the account at the end of 5 years.
- $1,804
- $1,070
- $1,205
- $1,548
Calculation: FV = PV * (1 + r)^n
FV5 = $800 * (1 + 0.06)^5 = $1,070.58
2. Projecting an Income Statement
When projecting an income statement, it is important to consider:
- How much cash you will need.
- Previous income statements to project behaviors of costs and expenses, as well as other financial assumptions.
- The credit given to customers and collection times.
- None of the above.
3. Time Value of Money and Inflation
The time value of money is affected by inflation.
- True
- False
Explanation provided: It’s only affected by time and interest.
4. Asset Replacement Analysis
A restaurant is planning to replace its existing kitchen, which was purchased 3 years ago at a cost of $15,000. It could be sold today for $8,000. The depreciation period of this system is 5 years from the date of its purchase.
A new kitchen could be bought for $16,000 and would have an installation cost of $2,000. Assume a 25% tax rate on profits.
Calculate the Book Value of the Old Kitchen
Annual Depreciation = Initial Cost / Depreciation Period
Annual Depreciation = $15,000 / 5 years = $3,000
Total Depreciation = Annual Depreciation * Years Owned
Total Depreciation = $3,000 * 3 years = $9,000
Book Value = Initial Cost – Total Depreciation
Book Value = $15,000 – $9,000
Book Value = $6,000
Calculate the After-Tax Proceeds of Its Sale
Profit on Sale = Sale Price – Book Value
Profit on Sale = $8,000 – $6,000 = $2,000
Tax on Gain = Profit on Sale * Tax Rate
Tax on Gain = $2,000 * 0.25 = $500
After-Tax Proceeds = Sale Price – Tax on Gain
After-Tax Proceeds = $8,000 – $500
After-Tax Proceeds = $7,500
Calculate the Initial Investment
Initial Investment = New Kitchen Cost + Installation Cost – After-Tax Proceeds of Old Kitchen
Initial Investment = $16,000 + $2,000 – $7,500
Initial Investment = $10,500
5. Cash Budget Projection
Your sales in January and February were $120,000 and $150,000, respectively. You’d like to make a cash budget for March, April, and May, for which you project sales of $133,000, $160,000, and $125,000, respectively. Cash sales represent 50%, while collections on credit at one and two months represent 30% and 20%, respectively.
Problem Data
Sales:
| Month | Sales ($) |
|---|---|
| January | 120,000 |
| February | 150,000 |
| March | 133,000 |
| April | 160,000 |
| May | 125,000 |
Collection Pattern:
- 50% of sales are cash sales (collected immediately).
- 30% are collected one month later.
- 20% are collected two months later.
Cash Receipts Calculation for March
- 50% of March sales ($133,000) = 0.50 × 133,000 = $66,500
- 30% of February sales ($150,000) = 0.30 × 150,000 = $45,000
- 20% of January sales ($120,000) = 0.20 × 120,000 = $24,000
- Total cash receipts in March = $135,500
Cash Receipts Calculation for April
- 50% of April sales ($160,000) = 0.50 × 160,000 = $80,000
- 30% of March sales ($133,000) = 0.30 × 133,000 = $39,900
- 20% of February sales ($150,000) = 0.20 × 150,000 = $30,000
- Total cash receipts in April = $149,900
Cash Receipts Calculation for May
- 50% of May sales ($125,000) = 0.50 × 125,000 = $62,500
- 30% of April sales ($160,000) = 0.30 × 160,000 = $48,000
- 20% of March sales ($133,000) = 0.20 × 133,000 = $26,600
- Total cash receipts in May = $137,100
Summary of Cash Receipts
| Month (collections) | 50% Current Month | 30% Previous Month | 20% Two Months Ago | Total Cash Receipts ($) |
|---|---|---|---|---|
| March | 66,500 | 45,000 | 24,000 | 135,500 |
| April | 80,000 | 39,900 | 30,000 | 149,900 |
| May | 62,500 | 48,000 | 26,600 | 137,100 |
6. Profitability Index Decision Rule
When analyzing an investment, you should reject the project if its profitability index is:
- Equal to zero
- Lower than one
- Lower than zero
7. Understanding the Payback Period
The payback period is used only to:
- Determine how many dollars in profit a project will have each year.
- Determine the time it will take to recover the money invested.
- Analyze the impact of a company’s rate of return.
- Analyze cash flows considering the time value of money (TVM).
8. Accounting Rate of Return (ARR) Analysis
If you calculate the ARR of an investment (Project A) and it’s 12%, which of the following would be logical?
- If I find another project with an ARR of 11%, I’d reject Project A.
- It would be indifferent to choose Project B (mentioned above) or Project A.
- It would be indifferent only if another project offered the same ARR.
- I would accept Project A if I have another project whose ARR is 12.3%.
9. Value of Annuities Due
True or False: When you are receiving payments, an annuity due has a greater value than an ordinary annuity.
- True
- False
10. Sales as a Driver in Income Statements
When projecting an income statement, sales are the main driver and:
- Absolutely everything moves up or down depending on sales.
- Nothing moves according to sales.
- Some costs/expenses are variable and move with sales, but others are fixed.
- We should ask for external financing.