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John and Sally Claussen are considering the purchase of a hardware store from John Duggan. The Claussens anticipate that the store will generate cash flows of $70,000 per year for 20 years. At the end of 20 years, they intend to sell the store for an estimated $400,000. The Claussens will finance the investment with a variable rate mortgage. Interest rates will increase twice during the 20-year life of the mortgage. Accordingly, the Claussens' desired rate of return on this investment varies as follows:

Years 1-5 = 8%

Years 6-10 = 10%

Years 11-20 = 12%

What is the maximum amount the Claussens should pay John Duggan for the hardware store?

- Student Nail Class: N Problem 05-05 CLAUSSEN PURCHASE Estimated Cash Flows co O Time Period Interest Rate Factor PVA PV Yearly Cash Flow $ 70,000 70,000 fears 1-5 Years 6-10 fears 11-20 70,000 End of Year 20 400,000 Maximum Purchase Price Use the Present and Future Value Tables in the text or enter the proper formula rounded to 5 decimal places

Answer 1

Year Present Value Factor Interest rate Amount received each period 0.92593 8% 70000 0.85734 8% 70000 0.79383 70000 0.73503 8% 70000 0.68058 8% 70000 0.56447 10% 70000 0.51316 10% 70000 0.46651 10% 70000 0.42410 10% 70000 0.38554 10% 70000 0.28748 12% 70000 0.25668 12% 70000 0.22917 12% 70000 0.20462 12% 70000 0.18270 12% 70000 0.16312 12% 70000 0.14564 12% 70000 0.13004 12% 70000 0.11611 12% 70000 0.10367 470000 Maximum Amount the Claussens should pay for the hardware store Present Value 64814.81 60013.72 55568.26 51452.09 47640.82 39513.18 35921.07 32655.52 29686.83 26988.03 20123.33 17967.26 16042.19 14323.39 12788.74 11418.52 10195.10 9102.77 8127.47 48723.38 613066.47 16 17 18 19 20 12%

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