Question

Jujube Tech is a startup that successfully sold a popular portable phone battery and has accumulated a large of amount of cash, which is sufficient for the firm's investment for the next 5 years, according to estimates. Are Jujube Tech's investment decisions affected by the interest rate this year?

Answer 1

Yes , Jujube Tech's investment decisions will be affected by the interest rate this year . Below are the following points :

1. As the rate of interest is an important variable affecting investment expenditure. The fundamental point here is that investments are undertaken up to the point at which the marginal invest­ment is expected, over the lifetime of an asset, to yield returns which just cover the cost of the investment. This ‘break-even’ investment is the cut-off point for the investor.
2. If investment projects are ranked according to the net returns (i.e., return over cost) which they yield, those above the break-even investment will yield net returns to the investor and those below would, yield net losses
3. Saving money in a bank gives a higher rate of return. Therefore, using savings to finance investment has an opportunity cost of lower interest payments
4. The marginal efficiency of capital (MEC) states that for investment to be worthwhile, it needs to give a higher rate of return than the interest rate.An inverse relationship between the rate of interest and investment is found in MEC. For example, if a businessman spends 1,00,000 on the purchase of a machinery. We assume further that this new capital asset continues to produce goods over a long period of time. The net return (excluding meeting all expenses except the interest cost) of the machinery expected to be 10,000 per annum. The marginal efficiency of capital will be 10%.

   Formula = (10000/100000) Χ (100/1) = 10%