Easy E Booking

a) The strength of straight line depreciation method is that it’s easy to calculate. In this case the finance manager, Maia, would only need to know its starting cost, life expectancy, and its final value. However, since it’s an easy method of calculating depreciation it lacks details and other factors. For example the same amount of money may not be worth the same as it is in the future. Also some items like technology have a different, perhaps faster, depreciation rate than other items. Maia would have to consider the depreciation rate of her technological items as it may depreciate faster than normal items would, thus the straight line depreciation method does not consider this into it. {4 marks}

b) Cost of Option A: $20 000

Year 1: 10000-500 = 9500

Remaining: 20000-9500 = 10500

Year 2: 12000-500 = 11500

10500/11500 = 0.913

Therefore 1.913 year or 1 year & 333.26 days (334 days) {2 marks}

c) Average rate of return = Net return (profit) per annum/Capital outlay (cost) x 100

14000+16800+23800+28000 = 82600

82600 – 40000 – 12000 – 15000 = 15600

15600/4 = 3900 – 2000 = 1900

1900/40000 x 100 = 4.75% {4 marks}

| Option A | Option B |

Year 1 | 9500*0.9615=9615 | 0*0.9615=0 |

Year 2 | 11500*0.9246=11095.2 | -200*0.9246=-184.92 |

Year 3 | 16500*0.8890=15113 | 21800*0.8890=19380.2 |

Year 4 | 19500*0.8548=17096 | 26000*0.8548=22224.8 |

Total | 51104.25 | 41420.08 |

d)

NPV (A) = 51104.25 – 20000 = 31104.25

NPV (B) = 41420.08 – 40000 = 1420.08 {5 marks}

e) The advantage of using NPV is that it allows manager to make decision at present time while the return value is predicted in the future. Usually money in the future has a lower value than the present value thus interest rates should be used. In this case Maia can make a clear decision that Option A has a far greater NPV than Option B. However the disadvantage of using NPV is that it does not...