Application Problem Sets

Instructions

In corporate finance, we need to deal with quantitative problems. This assignment, drawn from the course textbook, will provide practice in solving some quantitative problems. You are required to solve these problems. For each problem, you will need to provide more than a simple numerical response. Your solutions should thoroughly address the issue and present the findings in a meaningful format, similar to those developed within the chapters and as part of the review exercises solutions.   

Application Problem Sets

Question 1: (20 marks)

One Potato Two Potato Corporation sells potato chips internationally from PEI. Its credit terms are 2/10 net 30. Based on experience, 65% of all customers will take the discount. 

Required

1.       What is the average collection period for One Potato Two Potato?

2.       If One Potato Two Potato sells 1,300 ‘orders’ every month at a price of $1,750 each, what is its average balance sheet amount in accounts receivable? Assume 365 days per year. 

Question 2: (30 marks)

Covehead Lighthouse Corporation is considering a change in its cash-only policy. The new terms would be net one period. Based on the following information, determine if Covehead Lighthouse should proceed or not. The required rate of return is 2.5% per period.

Question 3: (50 marks)

Space Exploration Technology Corporation (Space X), is an aerospace manufacturer that sells stock engine components and tests equipment for commercial space transportation. A new customer has placed an order for eight high-bypass turbine engines, which increase fuel economy. The variable cost is $1.6 million per unit, and the credit price is $1.725 million each. Credit is extended for one period, and based on historical experience, payment for about one out of every 200 such orders is never collected. The required return is 1.8% per period. 

Required

1.       Assuming that this is a one-time order, should it be filled? The customer will not buy if credit is not extended.

2.       What is the break-even probability of default in part 1?

3.       Suppose that customers who don’t default become repeat customers and place the same order every period forever. Further assume that repeat customers never default. Should the order be filled? What is the break-even probability of default?

Evaluation

Application Problem 4 will be marked in its entirety out of 100. The following rubric indicates the criteria students are to adhere to, and their relative weights to the assignment overall.