# NVP analysis Evaluate Costs

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Problem 1

ABC Corp is using NVP analysis to evaluate costs associated with orders. Customer credit terms are net 30 days. The opportunity costs to ABC are 10%. The variables costs to the company for each sale is 60% of the sale and administration of credit to customers is 1.5% of sales.

A. If an order amount from a new customer is $50,000, and the customer pays is willing to pay within the 30 days allowed, should credit be extended?

B. Assume the analysis of payment receipts reveals the following probabilities of payment:

Payment timing Probability

Within 30 days .60

31 - 60 days .25

61-90 days .10

90+ days .05

ABC's knows that customers pay after 90 days only when the bill has been sent to collections through a collection agency. The collection agency used, charges 50% of the amount collected, but collects, on average 75% of the amount invoiced within 30 days of receiving the referral. Between the initial net 30 and the time the charge is sent for collection, the company had a cost of $150 for every 30 days the bill is not paid. Based on this additional information, what is the NVP for the $50,000 order? Should ABC extend the credit to the new customer?

Problem 2

There is a new cash manager at ABC Corp. He is interested in investing in high dividend yield stocks. One he is interested in has a yield of 7%. ABC's marginal federal income tax rate is 35%. Answer the following questions:

A. What is the dividend capture yield to ABC?

B. How much would CP have to yield to equal the after-tax basis of the investment?

C. What are some other risks the new cash manager should be aware of? How can these risks be offset?

Problem 3

You recently approached your bank about a credit line. The terms offered to you include a rate of prime plus 1 percent on the amount borrowed. Prime is currently 3.25%. There is also a commitment fee of 20 basis points on the unused portion of the credit line and a compensating balance of 15% on the amount borrowed.

You decide to establish the line of credit for $40 million. Currently, your company does not hold balances in their accounts at the bank and pays fees for all cash management services.

A. Estimate the yearly cost of the credit line if the average monthly amount used is $30 million.

B. If your company chose to start keeping the compensating balance at the bank, estimate the effective cost of the credit line.

Problem 4

Boundless Paper is an online retail outlet for high end paper products. The company orders name brand paper products at wholesale and sells to the public at retail. The management at Boundless Paper is trying to determine the optimal order quantity for a particular brand of paper. The paper wholesales at $100.00 per ream (500 sheets) and sells for $0.50 per sheet ($250.00 per ream). Order costs are estimated at $50 per order and holding costs are $.50 per ream. Boundless Paper sells about 1 million sheets of paper per year (2,000 reams).

A. Assuming that 120 reams are ordered each time an order is placed, estimate the annual inventory costs.

B. Determine the EQO?

C. Based on the EQO, how many orders should be placed and what is the average inventory balance?

D. If it takes five days to receive an order from the suppliers, at what inventory level should Boundless place an order?

E. The supplier of this particular paper product has recently offered a discount of $5.00/ream for order increments of 100 reams (50,000 sheets) for a maximum order of 500 reams. What quantity should Boundless order based on the quantity discount offered?

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NPV analysis to evaluate costs are examined.

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