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You are on page 1of 9

Summer 10

Practice Exam 1

Problem 1-2

The accounting department of a large credit card company has assembled the following data for its “Call

Center” as it is considering outsourcing this function. Currently 10,000 square feet of space is rented at $5 per

square foot. Over 200 employees at a monthly pay of $16,000 are currently working. Utilities cost including

telephone cost about $10,000 a month. Overhead cost is about 30% of the cost of labor per year.

An outsourcing company has quoted a price of $4,500,000/ year for this operation for the next five years. Is it

better to outsource this function from an economic perspective?

Solution:

Rent al expenses = 10,000 (5)(12) = $ 600,000

Utilities = 10,000 (12) = $ 120,000

Labor cost = 16,000 (200)= $ 3,200,000

Overhead expenses = 0.30 (3,200,000) = $ 960,000

Total = $4,880,000

Outsourcing cost /year = $450,000

It is cheaper to outsource.

Problem 1-3

The Amazon Transit Authority in Los Angeles is considering the type of engine to purchase for its next bus

fleet. The outlook for the transit market has been gloomy nation-wide and even worse for the city of Los

Angeles. Currently, the city's bus fleet is equipped with buses using gasoline V-8, 370 cu. in. engines with

manual transmissions and with buses using diesel V-8, and 8.2-liter engines with automatic transmissions. Each

bus has a service life of ten years. The Transit Authority has maintained yearly records of the cost of operations

and repairs for each type of bus in its fleet, and the information is furnished below. You have been hired as an

engineering consultant to perform an economic analysis. Use the following information to identify the type of

engine, gasoline or diesel that is more economical for the Transit Authority bus line. Please indicate the reason

for your choice.

Gasoline Engines Diesel Engines

Year Operating Costs Miles Driven Operating Costs Miles Driven

1998 $3,565 8,969 $2,906 11,919

1999 2,428 5,206 2,876 10,830

2000 2,352 2,784 2,876 15,612

2001 6,307 3,309 4,784 9,296

Totals $14,652 20,268 $14,442 47,657

Solution:

Gasoline Engines: Cost per mile = $14,652 / 20,268 = $0.7229 per mile.

Diesel Engines: Cost per mile = $ 14,442 / 47,657 = $0.3030 per mile.

Savings using diesel engines = $ 0.7229 - $0.3030 = $0.4199/mile

The Transit Authority should consider buying buses with diesel engines, as it is cheaper to operate them.

Problem 1-7

AT MKBK Plastics Inc, an injection molded parts has been estimated to be $1.05 a piece. ( $0.80 for material

and $0.25 for labor). A tooling expenditure of $50,000 has been incurred to make 5 million parts over a period

of 12 months. After delivering 2 million pieces, it has been found that a better material at a reduced price $0.70

a piece has come to the market. However, the new material requires some modification to the existing tooling.

How much the company can afford to spend on this modification to make cost savings of at least $100,000 on

the contract. Note that, it will delay the delivery and the cost of the delay is estimated to be $150,000.

Solution:

Material Cost Savings on the remaining 3 million parts = (0.80 - 0.70) × 3,000,000

= $300,000

Max expenditure that can be made on the tooling}

modification } =$300,000-150,000 - 100,000

= $50,000

Problem 2-6

Ross Recreations Company, LLC operates a summer camp in Monterey, Tennessee. The following cost data for

a 12-week summer camp is as below.

Charge per camper =$400/week

Variable cost per camper =$220/week

Fixed costs =$240,000 per summer season

Capacity per week =200 campers

Determine

(a). the total number of campers to breakeven for the season.

(b). the profit if the camp is operated at 90% capacity.

(c) the additional profit that can be made if a discount of $100 per week is given for another 10 campers.

Solution:

240,000 + 220 (12) X = 400 (12) X

X. = 240,000/ {(400-220)(12)}=111 campers.

(b). 90% capacity

Number of campers = 0.90 (200) = 180

Profit = 180 (400) 12 – {240,000 + 180(12)(220) = $188,800

(c) Additional profit = 10(12)(400-100)- 10(12)(220) = $9,600

Problem 2-12

Kal Tech Engineering Inc. makes a consumer product for which the following three different alternative

production equipment are considered. The demand is expected to be as high as 30,000 units/year.

Determine the ranges of production (units produced per year) over which each alternative is preferable.

Alternative Fixed Costs/ Year Variable Costs/ Unit

A $100,000 $20

B 200,000 5

C 150,000 7.50

Solution:

The breakeven chart is shown below. The analysis is below the chart.

400000

350000

300000

250000 A

Costs, $

200000 B

150000 C

100000

50000

0

0 5000 10000 15000 20000 25000 30000

Units

A and B

100,000 + 20 X = 200,000 + 5 X

X = 6,667

B and C

200,000 + 5 X = 150,000 + 7.5 X

X = 20,000

A and C

100,000 + 20 X = 150,000 + 7.5 X

X = 4,000

For X ≤ 4,000 use Alt. A

For X ≤ 20,000 use Alt. C

For X > 20,000 Alt .B is preferable.

Problem 2-13

Estimate the unit selling price of an item for which the following data is available.

Labor = 16.8 hours at $15.87/hour

Factory overhead = 150% of labor

Material costs = $50.10

Packing cost = 10% of labor

Subcontract cost = $10.20

Sales commission = 10% of selling price

Profit = 20% of selling price

Solution:

Labor Cost = 16.8 x 15.87 = $266.62

Factory overhead = 150% of labor = 399.93

Material cost = = 50.10

Packing Cost = 10% of labor = 26.66

Subcontract cost = = 10.20

753.51

Let X be the selling price

0.10 X + 0.20 X + 753.51 = X

0.7 X = 753.51

X = 753.51/0.70 = $1,076.44

Problem 3-1

Diana borrowed $3,000 from Pat and promised to pay him $3,405 after 1.5 years. What simple interest rate did

she have in mind?

Solution:

P = $3,000. F = $3,405. N = 1.5 Years.

Interest Earned = F - P = $3,405 - $ 3,000 = $405.

For simple interest rate, interest earned = P × i × n. 405 = 3,000 × i × 1.5.

i= 405 / 4,500 = 0.09 = 9% per year.

Problem 3-3

How long does it take double an investment of $10,000 if the investment pays only simple interest at the rate of

12% per annum?

Solution:

n =?

20,000 = 10,000 +{10,000 ×(0.12) × n}

n = 10,000 /{(10,000) ×(0.12)}= 8.33 years.

Problem 3-5

How much would you need to invest at 6% interest on December 31, 2002, in order to accumulate $1850 on

December 31, 2009? Present the economic functions required, showing first the functional notation and then

its numerical value.

Solution:

P = F (P/F, i, n) = $1,850 (0.6651) = $ 1,230.44

Problem 3-6

What is the equivalent worth on December 31, 2002, of $1,295 deposited on December 31, 1995? Use an

interest rate of 6%.

Present the economic equivalence function required, showing first the functional notation and then its numerical

value.

Solution:

F = P (F/P, i, n) = 1,295 (F/P, 6%, 7) = 1,295 (1.504) = $1,947.68.

Problem 3-11

Linda inherited a sum of $50,000 from one or her great parents. She would like to invest in one of the following

three possible investment opportunities for a period of 10 years. Choose the best one for her.

i. 9% compounded quarterly.

ii. 8.90% compounded daily.

iii. 8.95% compounded monthly.

Solution:

9% Compounded quarterly

F = $50,000 (F/P, 2.25%, 40) = $121,759.45

8.90% Compounded daily

F = $50,000 {F/P, (8.9/365)%, 3650) = $121,743.28

8.95% Compounded monthly

F = $50,000 {F/P, (8.95/12)%, 120) = $121,961.07

Choose to invest on 8.95% monthly compounding.

Problem 3-14

Tom Weavers is anxious to have his inheritance $10,000 doubled in 5 years. What interest rate should he get if

the interest rate is compounded monthly?

Solution:

$20,000 = $10,000 (F/P, i%, 60)

(F/P, i%, 60) = 20,000 /10,000 = 2

i (F/P, i%, 60)

1% 1.817

1.25% 2.107

Need to interpolate.

i% = 1 + (2.0 -1.817) * 0.25 / (2.107 - 1.817)

= 1.158%

Yearly or Nominal interest rate = 1.158 x 12 % = 13.896%

Problem 3-20

A piece of equipment that will cost $200,000 ten years from now, what it will cost five years from now if

money is worth 12%.

Solution:

Problem 4-2

500

00 2 10 20

4

200000 i = 9%

00

P=?

Solution:

P = 500(P/F, 9%, 20) –200(P/F, 9%, 10) = 500 (0.1784) – 200(0.4224) =$4.72

Problem 4-4

A person has a $350 monthly car payment, which is based on 12% annual interest, compounded monthly.

i. Determine the amount of car bought if it was financed for 60 months and a down payment of $3,00o

was paid.

ii. If he has already made 30 payments and determine, how much will it take to pay off the entire

balance at the time the 31st payment is due?

Solution:

i. The amount of car bought = 350 (P/A, 1%, 60) +3,000 = 350(44.955)+3,000 = $18,734.25

ii. Payoff amount at the time 31st payment = 350 + 350 (P/A, 1%, 29) = 350 + 350 925.066)

= $9,123.10

Problem 4-8

Mary Smith took a car loan of $12,000 to pay back in 60 monthly installments at a nominal interest rate of 12%

on the understanding that the interest rate may be changed sometime in the future. Compute

i. the monthly payment for Mary.

ii. the loan balance immediately after the 24th payment.

ii. the monthly payment for the remainder of the loan if the interest rate is reduced to 9%.

Solution:

i. Nominal interest rate = 12%

i Monthly interest rate = 12%/12 = 1%

Monthly payment at 1% int. per month, A1 = $12,000 (A/P, 1%, 60) = $266.4

ii. After the 24th payment, there will be 36 more payments before the loan is retired. Therefore, loan

balance after the 24th payment = $266.40(P/A, 1%, = $ 8,020.50

iii. Since the nominal interest rate is 9%, monthly interest rate = 9%/12 = 3/4%

Monthly payment at 3/4% int. per month, A2 = $8,020.50 (A/P, 3/4%, 36) = $255.05

Problem 4-11

Given the cash flow diagram below, determine the unknown value using an interest rate of 9%.

600 600

400 400

200 200

0

1 2 3 4 5 6 7

A=?

Solution:

First find the present worth of all the positive cash flows and then find an equivalent uniform amount.

P = 600(P/A, 9%, 3) –200(P/G, 9%, 3) + {200 (P/A, 9%, 3) + 200 (P/G, 9%, 3)}(P/F, 9%, 4)

= 600(2.531) –200(2.386) + {200 (2.531) + 200 (2.386)}(0.7084)

= $1,738.04

A = 1,738.04(A/P, 9%, 7) = 1,738.04(0.1987) = $345.35

Problem 4-13

Your family is expanding in number, and so you decide to sell your current home and to upgrade to a larger

home. You estimate that you can sell your current home for $100,000 and can buy a larger home for

$175,000. You plan to use the entire $100,000 home sale proceeds as a down payment on the new home

and will finance the remainder for 10 years at 6% nominal annual interest compounded monthly. What is

your estimated monthly mortgage payment?

Solution:

Monthly interest rate = 0.06/12 =0.005 Number of payments =10 (12) = 120.

Monthly mortgage payment = 75,000(A/P, ½ %, 120) =75,000(0.0111) =$832.50

Problem 4-20

Assume that you have graduated and have gotten a good job (dream on!). You are conscientious and want to

begin a savings account. You are paid monthly and have authorized your bank to automatically withdraw

$300.00 from each paycheck. The bank made the first withdrawal on July 1, 2008, and you instruct them to

make the last withdrawal on April 1, 2035. The bank pays a nominal interest rate of 8% and compounds

quarterly. The money is deposited monthly. Interest is paid and accrued quarterly. What will be the balance of

the account on April 1, 2027?

Solution:

F = $900 × (F/A, 2%, 100) =$900 × 312.23 = $281,007

Problem 4-26

You want to buy a house and can pay a $5,000 down payment and a mortgage payment of $500 each month.

Thirty-year mortgage loans are available for 6% per year. What is the most expensive house you can buy?

Solution:

Loan data: n = 30. i = 6% per year.

A = P × (A/P, i, n).

500 = (P – 5,000) × (A/P, 12%/12, 30×12)

= (P – 5,000) × (0.0006).

Solving for P, we get, P = 5,000 + (500/0.0006) = $88,333.33.

Problem 4-53

For the cash flow diagram shown below, compute the value of P.

$5,000

$500

0

1 2 3 4

P=? i = 10%

Solution:

= 500 (0.9091) + 5,000 (0.6830)

= $3,869.55

Problem 4-57

A financial institution offers a daily compounding of interest to its depositors. It advertises the nominal interest

of 7%. Compute the equivalent annual uniform series of withdrawals someone could withdraw from the

account for 30 years if $1,000,000 is deposited now.

Solution:

P = $1,000,000. r = 7%.

ie = (1+r/m)m - 1 = (1 + 0.07/365)365 - 1 = 7.25%. nyr = 30.

A = P×(A/P, i, n) = 1,000,000 × (A/P, 7.25%, 30) = 1,000,000 × 0.08262 = $82,620.

Problem 4-65

A lease of production equipment at Kal Tech Engineering requires a payment of $50,000 at the beginning every

year for the next 6 years. If the interest rate is 8%, compute the present worth of this lease.

Solution:

P = 50,000+50,000(P/A, 8%, 5) = 50,000 +50,000(4.623) =$28,115

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