You are in the market for a new refrigerator for your company’s lounge, and you have...

You are in the market for a new refrigerator for your company’s lounge, and you have narrowed the search down to two models. The energy-efficient model sells for $6,000 and will save you $200 at the end of each of the next five years in electricity costs. The standard model has features similar to the energy-efficient model but provides no future saving in electricity costs. It is prices at $5,000. Assuming your opportunity cost of funds, i..e. the interest rate, is 6 percent, which refrigerator should you purchase? Provide a detailed and concrete reason for your answer.

Expert Solution

The question has been answered using the concept of Net Present Value.

In crux, the same amount of money if offered today will always be more valuable than the same sum offered in the future. Therefore, although the energy efficient refrigerator will save you $200 at the end of each year for 5 years, but it is also $1000 more expensive than the standard refrigerator.

Therefore, $1000 today will always be more valuable than $1000 dollars in the future ($200 x 5).

Detailed calculations are attached.

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Rahul Sunny answered 8 months ago

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