Monday, 29 February 2016

Cost of Redeemable Debt Formula

Cost of Redeemable Debt Formula

Cost of redeemable debt formula has been given below. Cost of redeemable debt has been explained with an example.


Cost of Redeemable Debt Formula = L +(NPVL/NPVH-NPVL)x (H-L)


Where

RL= Lower rate of Return
RH= Higher Rate of Return
NPVL = NPV with Lower rate of Return
NPVH= NPV at higher rate of return

Cost of irredeemable debt process has been explained by example;


Cost of Redeemable Debt Formula Example


XYZ Quoted Rate
102
Coupon Rate
12%
Tax rate on companies
40%
Maturity
5 years

Solution

Particulars
Value
Dis. 5%
PV @ 5%
Dis. 10%
PV @ 10
Market Value
 108
1
108
1
108
Interest
  (7.2)
4.329
(31.172)
3.791
(27.29)
Redemption Value
 (100)
.784
(78.40)
.621
(62.1)



(1.57)

18.61

 Formula = L +(Nl/Nh-Nl)x (H-L)
 = 5% + (1.57/18.61)(7%)
 =.05+.323(.05)
 =5.59%

It is to be noted that interest rate is discounted by annuity factor, because it is a regular payment, while redemption value is discounted at straight discounting factor (at once), because it is onetime payment in five year.


Cost of irredeemable Debt

Cost of irredeemable Debt

Cost of irredeemable debt formula has been given below. Cost of irredeemable debt formula has been explained with an easy example;


Cost of irredeemable Debt Formula = Io ( 1-T)/Po


Where,

Io= Interest rate
T= Tax Rate
Po= Market value of debt (Ex interest Price)

 Cost of irredeemable Debt Formula Example

Interest Rate = 12%
Debt Value= 150
Prevailing Tax Rate =40%

Solution

Io ( 1-T)/Po
= [ 12(1-40%)]/150
=7.2/150
=4.8% (cost of Debt)


CAPM Formula

CAPM Formula


CAPM or capital asset pricing model Formula has been given below. CAPM formula has been explained with an easy example

CAPM = Rf + βe (Rm-Rf)



Rf= Risk Free Rate
Rm= Market Rate
βe = Equity Beta

Risk Free Rate

Risk Free rate is rate offered by the government on bonds. Bank offer rate in the country is also regarded as risk free rate. Risk free rate is lower than market rate due to lower risk.

Market Rate

Expected rate of return from the investment in the stock market is known as market rate or market rate of return. Market rate is expected to be higher than risk free return rate.

Application of CAPM


CAPM is used to calculate cost of equity, other important method of calculating the cost of equity is dividend valuation model. Cost of equity calculation has been explained below.

CAPM Formula Example


Stock Exchange Return Rate= 12%
Bank Risk Free Rate= 10%
Equity Beta= 1.6
Calculate Cost of equity?

Solution

= 10% + 1.6 ( 12%-10%)
=12%+1.6(2)%
=15.32%

 CAPM Formula Learning Example


Market Rate of Return= 13%
Risk Free Return (Rate)= 8%
Equity Beta= 1.3
Calculate Cost of equity?

Solution

= 8% + 1.3 ( 13%-8%)
=8%+1.3(5)%
=8% + 6.5%
=14.5%

Advantage of Using CAPM


CAPM takes into account two important concept of investment i.e. time value of money and risk. Time value of money is represented by risk free rate, while risk is represented by risk premium (premium for risk). Thus CAPM is a preferred method for cost of equity calculation.

Risk Premium = ( Rm-Rf)



NCI Fair Value Formula

NCI Fair Value Formula

NCI can be calculated by two methods i.e. NCI net asset method and NCI fair value methods. In this article we would explain the NCI Fair value method.


NCI at Fair Value = Number of Share (NCI) x Market price


NCI Fair Value Method Example


A Company acquires 80% shares of another Company (Y)
Total Number of shares= 100,000
Market price of shares= 8
Net asset of Y = 500,000
What would be value of NCI?

Solution

NCI at Fair Value = Number of Share (NCI) x Market price
=20000 x 8
=160,000





NCI Net Asset Formula

NCI Net Asset Formula

NCI can be calculated in two ways i.e. NCI net asset method and NCI fair value method. In this article we would explain the NCI Net asset method.

NCI as proportion of net assets =Total net asset x NCI %


Where
NCI = Non controlling interest


NCI Net Asset Formula Example

A company (X) acquire 80% share of another company (Y)
Net asset of Y = 500,000
What would be value of NCI?

Solution

NCI as proportion of net assets =Total net asset x NCI %
= 500,000 x 20%
=100,000









Goodwill Formula

Goodwill Formula

Goodwill formula has been given below. Goodwill formula has been explained with a simple an example


Goodwill = Cost of investment + Fair value of NCI- Fair value of net asset


NCI= Non controlling asset
NCI can be calculated in two ways i.e. market value of shares or % fair value of the net asset.

Goodwill Formula Example


80% Acquisition = 160,000
Fair value of Non controlling interest = 80,000
Net asset value of Company = 220,000

Solution

Goodwill = Cost of investment + Fair value of NCI- Fair value of net asset
= 160,000+44,000-200,000
=4,000 (Goodwill)


Machine Absorption Rate Formula

Machine Absorption Rate Formula



Machine Absorption Rate Formula =   Production Overhead    x 100
                                                      Budgeted Machine Hrs


Machine hour labour rate is calculated by dividing production overhead with budgeted machine hours.

Machine Absorption Rate Formula Example

Production Overheads= 450,000
Machine Hours= 15,000

Solution

= $ 450,000 (production overhead)/ 10,000 Total Machine Hours
= $ 150,000/ 1,000
= $ 10 (Machine Absorption Rate)

Labour Absorption Rate Formula

Labour Absorption Rate Formula


Labour Hour Absorption Rate Formula =   Production Overhead            x 100
                                                                   Budgeted Labour Hrs


Labour absorption rate is calculated by dividing the production overhead with budgeted labour hours.


Labour Absorption Rate Formula Example


Overheads Expenditure = $300,000
Budgeted Labour Hours = 20,000
Calculated Labour absorption rate?

Solution

= $ 300,000 (production overhead)/ 10,000 Total Labour Hours
= $ 300,000/ 20,000
= $ 15 (labour absorption Rate)

Product Absorption Rate Formula

Product Absorption Rate Formula



Product Absorption Rate Formula =   Production Overhead            x 100
                                                       Budgeted Production (units)


Product absorption rate is calculated by dividing production overhead with number of budgeted units.

Product Absorption Rate Formula Example


Overhead Expenditure = $ 400,000
Budgeted Production   =      20,000

What would be product absorption rate?

Solution

Absorption Rate (Labour Hr) = Production overhead/Total units Produced

= $ 400,000 (production overhead)/ 20,000 Total Products
= $ 400,000/ 20,000
= $ 20 (product absorption Rate)


Over Absorption Formula

Over Absorption Formula



Over Absorption = Absorbed overhead – Actual Overheads



Over Absorption Formula Example


Machine Hour = 6000
Absorption Rate = $ 6
Production Overhead (Actual) = 25,000

Solution

Absorbed Overhead = Hr x Absorption Rate

= 6000 hr x 6 = 36,000

Over absorption = 36,000-25,000

=11,000 (Over absorption)

 Reasons of Over Absorption


Over absorption result, because companies use predetermined absorption rate, while actual overhead may differ from the absorbed overheads.

 Over and under absorption


When absorbed overhead are more than actual overhead, then this is over absorption situation, when absorbed overhead are less than actual overhead, then this is under absorption situation.

Absorbed Overheads > actual Overheads = over absorption overheads
Absorbed Overheads < actual Overheads = under absorption overheads





Wednesday, 24 February 2016

Equal Annual Return Formula

Equal Annual Return Formula

Formula for Equal annual return has been given below. Equal annual return formula has been explained with an example.


Annual Return =         = Present Cash flow
                                    Annuity Factor
  


Equal Annual Return Formula Calculation


Equal return cash flows can be calculated by dividing the present cash outflow with annuity factor. It is important to remember that equal annual return is calculated with the help of annuity factor due to time value of money concept.


Equal Annual Return Formula Example


NPV or Present Value = 120,000
Period required for project = 5 Years
Rate of Return = 14%
Calculate equal return from project at required rate of return?

Solution
In first place we would calculate the annuity factor, and then with the help of that annuity factor, the annual equal return would be calculated.

Annuity Factor

= 1-(1.14)-3
     .14

=2.3216

Annual Return

Annual Return =         = Present Cash Flow
                                    Annuity Factor  

= 120,000/2.3216

=51,688

Objective of Equal Annual Return


Primary objective of calculating equal annual return is to compare mutually exclusive project with different project life. Equal annual return makes this comparison possible, and project with a high equal annual return is selected.

 Equal Annual Return Example


                                    Project A                     Project B

NPV                            160,000                      220,000
Period                            3                                      4
Discount                        6%                                   8%



Solution

                                  Project A                     Project B

NPV                            160,000                      220,000
Annuity Factor               2.678                          3.312
Equal Annual Return      59,746                       66,425        


Project B will be selected, because it is offering high amount of equal annual return.

Future Value Growing Annuity Formula

Future Value Growing Annuity Formula

Growing Annuity or future value of growing annuity can be calculated with following formula. It is important to note that for growing annuity future as well as present value may be calculated. In this article we have explained future value of Growing annuity.




Future Value Growing Annuity Concept 


Growing annuity concept is very similar to the regular annuity due concept, however in case of growing annuity the amount of payment (contribution) in an investment plan is increasing with a constant rate. Growing annuity concept has been explained with an example

i= interest Rate
g=Growth rate
n= period
C=Deposited amount

Future Value Growing Annuity Formula Example

Deposited Amount = 5,000
Annual Growth in Deposit   = 4%
Interest Rate = 10%
Period =5 Years

Solution

Annuity Factor =10,000x [(1+10%)5-(1+4%)5]
                                            10%-4%

=5000 x [1.610 – 1.2166]/.1-.05

=5000 x 7.868
=39340


 Growing Annuity


Future Value Annuity Due Formula

Future Value Annuity Due Formula

Future value of annuity due is calculated to determine the future value of the series of payment regularly made to a financial institution. This concept is widely used in insurance company.


Where;
C= Payment
i= Rate of interest
n= number of period (payment made)

 Future Value of Annuity Due


Future value of annuity due is basically calculating the Final or future value of series of payment made in an investment scheme on annual bases. Future value of annuity due concept has been explained with an example.


Annuity Due Formula Example

Amount Deposited= 4000
Period = 4 Years
Interest Rate =12%

Solution

Annuity Factor =C x [(1+i)n-1] x (1+r)
                                      i
= Cx [(1+12%)4-1] x (1+12%)
             12%

= 4000x (4.7793 x 1.12)


=4000 x 5.353

=21410

Future Value of annuity may also be calculated by following table, but this is method is a time consuming exercise.


Series of Payment
Interest
Future Value
1
4000
(1.12)4
6294
2
4000
(1.12)3
5619
3
4000
(1.12)2
5017
4
4000
(1.12)1
4480



21,410

Above example shows that person will receive an amount of 21,410 as result of series of payment he made in four years.