Question
PLEASE COMPLETE AND ANSWER EACH PART CLEARLY AND IN DETAIL! ALSO, SHOW THE CALCULATIONS IF YOU CAN! THANK YOU! 1. Now that youve fixed your
PLEASE COMPLETE AND ANSWER EACH PART CLEARLY AND IN DETAIL! ALSO, SHOW THE CALCULATIONS IF YOU CAN! THANK YOU!
1. Now that youve fixed your prices, your dumpling business is doing great. However, youre getting tired of paying that monthly rental fee on your truck. You go to the bank and ask for a loan to pay off the truck. They offer to provide you a loan that will pay it off in five years provided you can pay a 20% down payment. The truck with all its equipment is worth $100,000, so that means youve got to pay $20,000 upfront.
a) Suppose that the bank is willing to give you the loan at a 10% interest rate for a 5-year loan. Since youre paying $20,000 upfront, your loan amount is $80,000. Use this tool (https://www.bankrate.com/calculators/managing-debt/annual-percentage-rate-calculator.aspx) to find your monthly payment. Whats the monthly payment?
b) Suppose at the end of the 5-year period, you predict the truck will be worth $50,000. Vehicles depreciate quickly. That means you will have spent your down payment, plus the total amount of the loan, and at the end will be left with an asset worth $50,000. Calculate the total net cost (what you paid minus the value of what you have at the end) of buying the truck.
c) Now calculate the total net cost of renting the truck over the same period (simply the total rent paid). From Homework #3, remember your rent is $1000/month. Which is greater?
d) If you were to simply compare the two total net costs, which would look better at the end of 5 years?
e) Fortunately, you took Principles of Microeconomics, so you know simply comparing the two net costs isnt enough to make the decision. You also must consider the opportunity cost. To do that, you need to calculate what you could have earned if you had invested the amount of the down payment as well as the difference between the loan payment and the rent payment (were assuming investing is your next best option). To do that, use this investment calculator (https://smartasset.com/investing/investment-calculator#8i55VQxkb3). To start, stick with the default 4% rate of return. Put the down payment in the starting amount box and the difference between the loan payment and the rent in the additional contribution box (and change it to monthly). Also make sure to change the duration to 5 years. How much could you have earned by investing the difference under these assumptions?
f) Of course, your position at the end of five years isnt the only thing that matters unless you plan to end your business at that point. Suppose you think the truck will still be operational for 5 more years after you pay it off (10 years total). At that point the truck will be dead, so it will be worth $0. Re-do your calculations for a 10-year period. Remember, if you bought the truck, you can start investing the full amount of the mortgage payment after 5 years. If you go with renting, youll still have the same difference as before.
g) Suppose the bank offers you a lower interest rate. You dont have to recalculate, but how would this affect the relative value of each option?
h) Suppose you actually expect to be able to earn more than 4% from your investments (4% is a bit pessimistic). How would that affect the relative value of each option? Is the effect different over the 5-year and 10-year period?
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