Question 2 (012) 2. value 10.00 points John Wiggins is contemplatin g the purcha

Question

Question 2 (012) 2. value 10.00 points John Wiggins is contemplatin g the purchase of a small restaurant. The purchase price listed by the seller is $800,000. John has used past financial information to estimate that the net cash flows (cash inflows less cash outflows) generated by the restaurant would be as follows (FV of $1, PV of $1. $1, FVA D of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.) Years Amount $80,000 70,000 60,000 50,000 40,000 1-6 8 10 If purchased, the restaurant would be held for 10 years and then sold for an estimated $700,000. Required Determine the present value, assuming that John desires a 10% rate of return on this investment. (Assume that all cash flows occur at the end of the year.) Future Amounti nPresent Value 80,000 70,000| 60,000| 50,000| 40,000| 10% 10% 10% 10% 10% 10% 700,000| 0 Should the restaurant be purchased? No Yes

Explanation / Answer

Present Value (PV) of Cash Flow: (Cash Flow)/((1+i)^N) i=Discount Rate=desired return=10%=0.1 N=Year of Cash Flow N FV PV=FV/(1.1^N) Year Future amount Present Value 1 $80,000 $                72,727 2 $80,000 $                66,116 3 $80,000 $                60,105 4 $80,000 $                54,641 5 $80,000 $                49,674 6 $80,000 $                45,158 7 $70,000 $                35,921 8 $60,000 $                27,990 9 $50,000 $                21,205 (40000+700000) 10 $740,000 $             285,302 SUM $             718,839 Present Value $             718,839 Should the restaurant be purchased? Answer: NO Because the Price is higher than the present Value

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