Problem 3.29

Air Comps is a wholesaler that stocks engine components and test equipment for the commercial aircraft industry. A new customer has placed an order for eight high-bypass turbine engines, which increase fuel economy. The variable cost is $1.7 million per unit, and the credit price is $2.055 million each. Credit is extended for one period, and based on historical experience, payment for about 1 out of every 125 such orders is never collected. The required return is 2.0 percent per period.

a-1. Assuming that this is a one-time order, what is the NPV per unit?

a-2. Should the order be filled?

b. What is the break-even probability of default for a one-time order?

c-1. Suppose that customers who dont default become repeat customers and place the same order every period forever. Further assume that repeat customers never default. What is the NPV per unit?

c-2. Should the order be filled if the customer will become a repeat customer?

c-3. What is the break-even probability of default assuming that the customer will become a repeat customer?