A vacuum salesman is a $1000 vacuum cleaner which he guarantees for 10 years. He

Question

A vacuum salesman is a $1000 vacuum cleaner which he guarantees for 10 years. He claims that vacuum cleaners selling for $250 will last just 2 years. Consequently, he claims that you will save $250 (5 x 250 - 1000) over the life of his vacuum cleaner. Let option 1 be a $1000 vacuumcleaner purchased once over a 10 year period. Let option 2 be five vacuum cleaners purchased every 2 years at $250 over a 10 year period.
a) Draw a cash flow diagram for each of the above options.
b) Assuming an annual interest rate of 8%, compare the present value for each of the above options. Which option is the better deal?

Explanation / Answer

B)

present value of option 1

P V = 1000

present value of option 2

PV = 250 + 250/1.08^2 + 250/1.08^4 + 250/1.08^6 + 250/1.08^8 = 940 .7

option 2 is better deal

it is diffucult draw a cash flow diagram here

it nothing but

there is a cash flow 0f 250

at year 0,2,4,6,8,

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