A company is considering purchasing a maintenance contract for its air condition

Question

A company is considering purchasing a maintenance contract for its air conditioning systems The company plans to begin the contract in year four and continue through year ten. The cost of the contract is $3,200 per year and the company's minimum attractive rate of return is 10% per year. The present worth of the contract is nearest to: a. -10,704 $ b. -11,704s C. 12,704 d. 13,704 S if the company wishes to pre-pay the contract with uniform payments in years one, two and three only, the amount of each payment will be nearest to: a. -47063 b. -4304.19 c. -5510.52 d. -5108.41

Explanation / Answer

(1) (b)

Present worth (PW) at year 0 is the PW of the costs from years 4 to 10 (7 years, both inclusive) computed in year 4 and discounted by 3 years to year 0.

Present worth, P ($) = - 3,200 x P/A(10%, 7) x P/F(10%, 3) = - 3,200 x 4.8684** x 0.7513** = - 11,704

(2) (a)

In this case, annual payment ($) = PW / P/A(10%, 3) = - 11,704 / 2.4869 = - 4,706.26

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