O-LevelCommerceWarehousing7100/21 · Oct/Nov 2021 · Q418 Marks

CC Foods is a private limited company that needs finance and insurance for a new cold storage warehouse.

(a)State two features of a cold storage warehouse. 1 2[2]
(b)Explain two possible disadvantages to CC Foods of being a private limited company. 1 2[4]
(c)CC Foods can use either retained earnings (retained profits) or leasing to finance the cold storage warehouse. Discuss both options. Which would you recommend? Give reasons for your answer.[8]
(d)(i)The cold storage warehouse will be valued at $150000 but CC wishes to insure it for $100000. Give one reason why CC Foods might want to do this.[2]
(d)(ii)Is it advisable for CC Foods to do this? Give a reason for your answer.[2]

Mark scheme

Marking points from the official mark scheme (Oct/Nov 2021). The mark or mark type is shown in brackets.

[2] (a) Temperature controlled/low temperature;
[2] (a) Refrigerated/freezer compartments;
[2] (a) Controlled by computers;
[2] (a) Storage of perishable/seasonal goods
[4] (b) Cannot sell shares to the public to raise capital (1) limiting amount invested/small capital (1)
[4] (b) Legal procedure to set up company (1) costs time/money (1)
[4] (b) Financial situation is not private (1) accounts are publicly available (1)
[4] (b) In some countries, the number of shareholders is restricted to 50 (1) reduces expansion (1)
[4] (b) Shares are not transferable (1) as it has to be approved by existing shareholders (1)
[4] (b) Restrictions on what it can do (1) controlled by memorandum/articles of association of association (1)
[8] (c) Retained earnings are profits made by a business in previous years and kept within the business for future use. Leasing is a method of renting/hiring assets.
[8] (c) Arguments for and against retained earnings: Do not have to find a financial institution to provide finance so time/cost is saved; There are no repayments and there is no interest to be paid; The retained profits may be insufficient to pay for the warehouse; There is the opportunity cost that the retained earnings cannot be used for something else
[8] (c) Arguments for and against leasing: No initial cost of purchase and payments can be spread to help cash flow; No cost to CC Foods for repairs/maintenance; Warehouse is owned by the lease/finance company; Lease agreement may have to be secured against assets so if not paid, assets can be repossessed
[8] (c) Evaluation: It depends whether CC Foods has enough retained profits to pay for the warehouse outright immediately, if so CC should buy it because it becomes an asset of the business. If not, CC will have to use some form of leasing or borrowing. CC Foods may not like the fact that it does not own the warehouse but CC may be given the option to buy the warehouse at the end of the lease.
[2] (d)(i) CC Foods cannot afford (1) to pay high premiums (1); CC Foods want to pay a lower premium (1) save money (1); CC Foods believe the value is too high (1) they think the insurance cost have been incorrectly calculated (1); The business is willing to act as its own insurer (1) are prepared to risk the loss of the other $50 000 (1)
[2] (d)(ii) No the warehouse would be under-insured (1) which is against the principle of indemnity (1) they cannot profit from a loss (1); If CC make a claim (1) they will lose money/not fully compensated (1); As they have only 2/3rds of the insurance cost (1) and there is damage costing $60000, the insurer will pay 2/3rds or $40 000 of the claim (1); If CC make a claim (1) the insurer may void/cancel the policy (1) just give back the premiums paid (1); If CC leased the warehouse (1) it would not have an insurable interest (1)