Bird's Eye Treehouses, Inc., a Kentucky company, has determined that a majority of its customers are located in the Pennsylvania area. It therefore is considering using a lockbox system offered by a bank located in Pittsburgh. The bank has estimated that use of the system will reduce collection time by 2 days. Assume 365 days a year.
Average number of payments per day 780
Average value of payment $ 730
Variable lockbox fee (per transaction) $ .15
Annual interest rate on money market securities 4.2 %
| a. |
What is the NPV of the new lockbox system? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) |
| b. | Suppose in addition to the variable charge that there is an annual fixed charge of $5,000 to be paid at the end of each year. What is the NPV now? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) |
| a] | Value of collections for 2 days = 2*780*730 = | $ 1,138,800.00 |
| Lockbox fee per day = 780*0.15 = | $ 117.00 | |
| Interest rate per day = 0.042/365 | ||
| PV of lockbox fee [a perpetuity] = -117/(0.042/365) = | $ (1,016,785.71) | |
| NPV of new lockbox = 1138800-1016785.71 = | $ 122,014.29 | |
| b] | PV of the fixed charge [also a perpetuity] = 5000/0.042 = | $ 119,047.62 |
| NPV with fixed charges = 122014.29-119047.62 = | $ 2,966.67 |
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