Question

A company is evaluating the possibility of buying new equipment that will mean monthly savings in operating costs of $ 100 the first month and it is estimated that they will increase by 5% per month. In addition, it is expected that the useful life of this new equipment will be 5 years. If the company is evaluating the financing of this equipment with a bank loan that charges 15%, how much would the amount that the company could pay for this machine today go up? Draw flow diagram

Answer 1

The present value of geometric series = C*[(1+g)^n/(1+i)^n - 1]/(g-i)

interest rate on loan = 15% = 15%/12 per month = 1.25% per month

g = 5% per month

C =100

n = 5*12 = 60 months

P = 100*[(1+0.05)^60/(1+0.015)^60 - 1]/(0.05-0.015)

P = 100*[(1.05)^60/(1.015)^60 - 1]/(0.035)

P = 100*189.86615

P = 18986.62

This is the maximum amount that company could pay go up by

Cash flow diagram