Hi All, I have been working through the 27th April 2010 paper recently, and had some questions which I would like to get some clarification on. Question 9: A company is undertaking a new project. The project requires an investment of 5 million at outset, and another 3 million 3 months later. It is expected that the investment will provide income for the next 15 years, starting from the begining of the third year. Net income is 1.7 million paid continously over the year and the effective rate of interest is 10% p.a. ii) Calculate the discounted payback period. My Analysis: So we know that the DPP is essentially the minimum time at which the investment, moves out of the red. Therefore we are looking to equate the PV of inflow with the PV of outgo. Therefore we end up with something along the lines of: 5+3v^(3/12) = 1.7a(continous)v^2 Now solving this for the value of n (or t whichever way you prefer to look at it), we get the answer of 8.0999. This would indicate that the DPP for the investment would be 8 years from the point of onset. However the DPP is said to be at t+2, which would then make this 10 years. Now the question is: Is the DPP assumed to be at t+2 primarily because the income of 1.7 million continous p.a. does not commence until the end of the second year? i.e. the same reason that we are discounting the 1.7 million by n=2. Ultimately the definition of the DPP does not seem to distinguish between the time when income is recieved, well it doesn't appear to be a factor in calculating the DPP. So I just wanted to clarify what the specific reason is for the t+2 consideration.
The correct DPP is 8.0999+2= 10.0999 years and not 10 since the income is contionous. DPP tells us at when the project becomes profitable. So in this case it becomes profitable after 10.0999 from time 0. So yes, what you have said is correct!
Hi Sanjay, Thanks for your reply and helping me clarify this. My apologies I simply assumed it to be in whole years but 10.0999 is correct. I believe in the examiners notes it is rounded to 10 years.
The answer in the report is 10.1 actually.If it's continuous don't round it to a whole figure. keep a few decimals. Good luck with your exams! I'm studying for CT 1 as well!
Excellent thanks for the tip. I haven't really been round up or down, but need to find an acceptable number of decimal places to use for calculations. Goodluck with your exam to Sanjay . Thanks for your help mate.
I'd say use the memories of the calculators to store the intermediate values of the calculations. It will speed up your calculations (you won't have to insert the figures again and again and you won't have to worry about the number of decimal places to be inserted) and also increase the accuracy of your answers.
