You are trying to decide between two mobile phone carriers. Carrier A requires you to pay...

You are trying to decide between two mobile phone carriers. Carrier A requires you to pay $200 for the phone and monthly charges of $60 for 24 months. Carrier B wants you to pay $100 for the phone and monthly charges of $70 for 12 months. Assume you will keep replacing the phone after your contract expires. Your cost of capital is 4%. Based on costs alone, which carrier should you choose?

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Expert Solution

The present value of the costs of carrier A = $ 200 + $ 60 1.04¹ + $ 60 1.04² + $ 60 1.04³ + $ 60 1.04⁴ + $ 60 1.04⁵ + $ 60 1.04⁶ + $ 60 1.04⁷ + $ 60 1.04⁸ + $ 60 1.04⁹ + $ 60 1.04¹⁰ + $ 60 1.04¹¹ + $ 60 1.04¹² + $ 60 1.04¹³ + $ 60 1.04¹⁴ + $ 60 1.04¹⁵ + $ 60 1.04¹⁶ + $ 60 1.04¹⁷ + $ 60 1.04¹⁸ + $ 60 1.04¹⁹ + $ 60 1.04²⁰ + $ 60 1.04²¹ + $ 60 1.04²² + $ 60 1.04²³ + $ 60 1.04²⁴

The present value of the costs of carrier A = $ 1,114.82

The present value of the costs of carrier B = $ 100 + $ 70 1.04¹ + $ 70 1.04² + $ 70 1.04³ + $ 70 1.04⁴ + $ 70 1.04⁵ + $ 70 1.04⁶ + $ 70 1.04⁷ + $ 70 1.04⁸ + $ 70 1.04⁹ + $ 70 1.04¹⁰ + $ 70 1.04¹¹ + $ 70 1.04¹²

The present value of the costs of carrier B = $ 1,513.91

Thus you should choose carrier A because the present value of the costs of carrier A is less than the present value of the costs of carrier B.

ekkarill92 answered 1 year ago

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