Question

Simes​ Innovations, Inc., is negotiating to purchase exclusive rights to manufacture and market a​ solar-powered toy car. The​ car's inventor has offered Simes the choice of either a​ one-time payment of ​$2,800,000 today or a series of 10​year-end payments of ​$400, 000

a.  If Simes has a cost of capital of 9​%, which form of payment should it​ choose?

b.  What yearly payment would make the two offers identical in value at a cost of capital of 9​%?

c.  What would be your answer to part a of this problem if the yearly payments were made at the beginning of each​ year?  

d.  The​ after-tax cash inflows associated with this purchase are projected to amount to ​$260,000 per year for 15 years. Will this factor change the​ firm's decision about how to fund the initial​ investment?

Answer 1

A: PV of annuity = $2,567,063.08

Select the annuity payments since the Present value of those is lesser.

B: Yearly payment = $436,296.25

C: PV of annuity = $2,798,098.76

This is still lesser than the lumpsum payment, hence select the annuity payments.

D:

PV of after-tax cash inflows=$2,095,778.99

Since the PV of after tax cash flows is lesser than the PV of annuity payments, the investment is not useful.

This will impact the decision of whether to take the rights or not, but not the method of investment

WORKINGS