Question

As CFO of a small manufacturing firm, you have been asked to determine the best financing for the purchase of a new piece of equipment. The vendor is offering repayment options of $10,000 at the end of each year for five years, or no payment for two years followed by one payment of $42,500. The current market rate of interest is 9%. Calculate present value of both options. (For calculation purposes, use 5 decimal places as displayed in the factor table provided. Round final answers to 2 decimal places, e.g. 5,275.25.)

Click here to view the factor table PRESENT VALUE OF 1.
Click here to view the factor table PRESENT VALUE OF AN ANNUITY OF 1.

		Present Value
Option 1		$enter a dollar amount rounded to 2 decimal places
Option 2		$enter a dollar amount rounded to 2 decimal places

Which option would you recommend?

select an option                                                          Option 1 Option 2

Answer 1

Option 1 : Calculation of present value

Year	Amount	Present value Factor @9%	Present Value
At the end of Year 1	10000	0.91743	9174.3
At the end of Year 2	10000	0.84167	8416.7
At the end of Year 3	10000	0.77218	7721.8
At the end of Year 4	10000	0.70842	7084.2
At the end of Year 5	10000	0.64993	6499.3
Total			38896.3

Option 2 : One Payment of $42500 After 2 years (i.e. At The begning of 3rd year)

Present of payment = Amount of Payment x Present value Factor @9%(at the end of year 2)

Present of payment = 42500 x 0.84167

Present of payment = 35770.97

Conclusion : By evaluation of both option i would recommend option 2 for the purchase of equipment because in option 2 the present value of payment that made in option 2 is less than present value of payment made in option 1. company should choose option 2 it would leads to lower cost of the equipment than option 1.