Question

Fifteen years after graduating in electrical engineering and accepting employ- ment with Texas Instruments, Samuel Washington decides to establish a consulting business. Although he has invested wisely for the past 15 years, the value of his investments is only $325,000. After developing a business plan, he realizes he will need $250,000 on hand initially, plus $150,000 each successive year, to cover the expenses of an office and an assistant. He is unsure about how much of his own money he should use and how much to borrow. In talking to the loan officer of a local bank, he learns that the bank will charge him annual compound interest of 6 percent for a 5-year loan period or 5.5 percent for a 10-year loan period. Over the past 10 years, Samuel earned an average of 5.25 percent annually on his investments; he believes he will continue to earn at least that amount on his investment portfolio. If he borrows money, he can repay the loan in several ways: pay accumulated interest monthly, plus pay the principal at the end of the loan period; make equal monthly payments; make monthly payments that increase like a gradi- ent series; make monthly payments that increase like a geometric series; or make a lump sum payment at the end of the loan period. Because this is a business investment, any interest paid can be deducted from his taxable income.

Describe/state the problem that Samuel Washington is facing.

What are a couple of economic considerations that Sam should consider in his decision?

What are a couple of noneconomic considerations that Sam should consider in his decision?

Which factors--economic or noneconomic--should receive the most weight in his decision?

Answer 1

Ans- The problem which Samuel Washington is facing is that when he developed a business plan, he realized that he would need $250000 on hand initially, plus $150000 each successive year to cover the expenses of an office and an assistant. He is unsure about how much of his own money he should use and how much to borrow. The value of his investments is only $325000