Ask Question
9 August, 05:57

John and Sally Claussen are considering the purchase of a hardware store from John Duggan. The Claussens anticipate that the store will generate cash flows of $70,000 per year for 20 years. At the end of 20 years, they intend to sell the store for an estimated $400,000. The Claussens will finance the investment with a variable rate mortgage. Interest rates will increase twice during the 20-year life of the mortgage. Accordingly, the Claussens' desired rate of return on this investment varies as follows: (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor (s) from the tables provided.) Years 1-5: 7%

Years 6-10: 10%

Years 11-20: 12%

Required: What is the maximum amount the Claussens should pay John Duggan for the hardware store?

+3
Answers (1)
  1. 9 August, 07:54
    0
    Calculate maximum that should pay:

    Compute present value of cash flows from the store, year 1 to 5:

    Annual cash flows are $70,000

    Desired rate of return on investment for 1 to 5 years is 7%

    Number of years is 5

    Present value of cash flows generated during 1 to 5 years =

    = $287,013.82

    Compute present value of cash flows from the store for years 6 to 10

    Annual cash flows are $70,000

    Desired rate of return on investment for 6 to 10 years is 10%

    Desired rate of return on investment for 1 to 5 years is 7%

    Number of years is 5

    Present value of cash flows generated during 6 to 10 years = annual cash flows x PVIFA (10%,5) x PVIF (7%,5)

    = $70,000 x 3.79079 x 0.7130 = $189,198.33

    Compute present value of cash flows from the store for years 11 o 20

    Annual cash flows are $70,000

    Desired rate of return on investment for 11 to 20 years is 12%

    Desired rate of return on investment for 6 to 10 years is 10%

    Desired rate of return on investment for 1 to 5 years is 7%

    Number of years is 10

    Present value of cash flows generated during 11 to 20 years = [annual cash flows x PVIFA (12%,10) ] x PVIF (10%,5) x PVIF (7%,5)

    = $70,000 x 5.65022 x 0.62092 x 0.7130 = $175,100.98

    Calculate present value of estimated sale amount to be received for sale of store

    Present value of estimted sale amount to be received = [Estimated sale amount x PVIF (12%,10) ] x PVIF (10%,5) x PVIF (7%,5)

    =$400,000 x 0.32197 x 0.62092 x 0.7130=

    =$57,016.50

    Calculate total maximum amount that should be paid

    Particulars Amount ($)

    Present value of cash flows during 1 to 5 years $287,013.82

    Present value of cash flows during 6 to 10 years $189,198.33

    Present value of cash flows during 11 to 20 years $175,100.98

    Present value of estimated sale value $57,016.50

    Maximum amount that C should pay to JD for store $708,329.63

    Therefore, Maximum amount that should be paid $708,329.63
Know the Answer?
Not Sure About the Answer?
Find an answer to your question ✅ “John and Sally Claussen are considering the purchase of a hardware store from John Duggan. The Claussens anticipate that the store will ...” in 📘 Business if you're in doubt about the correctness of the answers or there's no answer, then try to use the smart search and find answers to the similar questions.
Search for Other Answers