Question：A contract is to be commenced immediately. In one year’s time it will require material EH. The material costs $7,800 now but will cost $8,800 in one year’s time. The cost of storing EH for one year is $110 payable in one year’s time.

If the contractor’s cost of capital is 10% per annum, what is the present value of using the material if the contractor wishes to maximise profit?

A.$7,999

B.$7,800

C.$7,900

D.$7,910

The correct answer is: $7,900.

If the contractor buys the material now, the present value of the cost is $(7,800 +($110 × 0.909) = $7,900.

If he buys it in a year’s time, the present value of the cost is $8,800 × 0.909 = $7,999.

The contractor should chose the lower of the two as he wishes to maximise profit.