Question

Spinning Wheels Co. is considering renting a new bike shop. The landlord has offered a number of alternatives for paying the rent. The company's desired rate of return is 10%. First alternative: The landlord offered a 3-year lease with $4,000 to be paid for rent at the end of each year. Second alternative: The landlord offered a 3-year lease with one rent payment only, due at the end of year 3, of $13,000. Third alternative: The landlord offered a 3-year lease with $3800 to be paid for rent at the beginning of each year, (prepaid) Using a spreadsheet or financial calculator, calculate the present value of rent payments over the life of the lease for each of the three alternatives. With each alternative labeled carefully, rank the alternatives in the order you find them to be most financially successful for Spinning Wheels company. Give your recommendation to the company, explaining your choice.

Answer 1

Answer:

Alternative 1

Alternative 2

Alternative 3

The present value of the first alternative is the largest, followed by the second and the third is the smallest

Explanation:

The present value is the sum of the after tax cash flows derived from an investment.

The present value can be calculated using a financial calculator:

For the first alternative:

Cash flow each year from year 1 to 3 = $4000

I = 10%

Present value = $9,947.41

For the second alternative

Cash flow for year 1 and 2 = 0

Cash flow for year 3 = $13,000

I = 10%

Present value = $9,767.09

For the 3rd alternative,

Cash flow each year for year 1 to 3 = $3800

I = 10%

Present value = $9,450.04

To find the PV using a financial calacutor:

1. Input the cash flow values by pressing the CF button. After inputting the value, press enter and the arrow facing a downward direction.

2. After inputting all the cash flows, press the NPV button, input the value for I, press enter and the arrow facing a downward direction.

3. Press compute

I hope my answer helps you