1. You are a manager at a clothing manufacturing firm. One of your machines has just...

1. You are a manager at a clothing manufacturing firm. One of your machines has just broken down. You are trying to decide between the following two options. Compute the net present value of each to identify the best choice. Assume the interest rate is 5%.

a. Pay $2000 to repair the machine. If you do this, the machine will produce 10,000 units this period and next period. Each unit sells for $50.
b. Pay $5000 to buy a new, modern machine. If you do this, the machine will produce 12,000 units this period and next period. Each unit sells for $50.

2. You are an entrepreneur-landlord. You have a vacancy at one of your strip malls. You are trying to decide between the following two options. Compute the net present value of each to identify the best choice. Assume the interest rate is 3%.

a. Pay $6,000 to update the space, and then rent it out on a 5-year lease for $6500/year.
b. Pay $20,000 to update the space to service one of your own businesses. You expect the business to produce an annual profit of $10,000.

3. You are a broker-buyer for a venture capitalist firm. It’s your job to buy new businesses, financing them using a mixture of bank loans and the firm’s resources. The bank always demands a 9% return on loans to your firm, and your firm has a 18% return minimum on its own capital. A new business idea is presented to you. The business costs $800,000 to establish. The bank is willing to finance 35% of this with your firm using its own capital for the rest. The business expects to make $100,000 per year (projected). Use the weighted average cost of capital to identify whether or not this is a good deal.

Expert Solution

Conclusion - "Option 2 of paying $5000 to buy a new machine" is a better option due to higher NPV.

jeff jeffy answered 1 year ago

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