You need to find the PV of 2300 for 6 periods.
If the PV < 12,834, it is better to not take the discount.
If the PV > 12,834, then it is a good deal.
Were you given a discount rate?
Hi, here is the scenario we have regarding our rent we pay for our business office.
Normally, rent is $2,300/month, paid on the 1st of the month.
Our landlord has offered to give us a 7% discount if we pre-pay. That means rent is $2,139/month.
We are considering pre-paying rent for 6 months out. We plan to make that payment December 31, 2010 and it will be for the January-June (6 months) 2011 period. This would mean we pay $12,834 on December 31.
What sort of calculations should we be doing to evaluate this deal? Do we want to find the rate of return? The Future Value of our pre-payment? We know getting this discount is good, but we aren't sure how good and how to properly evaluate it.
Thank you!
You need to find the PV of 2300 for 6 periods.
If the PV < 12,834, it is better to not take the discount.
If the PV > 12,834, then it is a good deal.
Were you given a discount rate?
You type the word math between brackets [ ] then you type in latex and then enclose the latex in \math [].
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LaTeX Online Equation Editor
You can "look" at this as YOU lending the landlord $12,824, then the landlordCode:month payment interest balance 0 12834.00 1 -2300.00 271.27 10805.27 : 12834 * .021137... = 271.27 2 -2300.00 228.39 8733.66 3 -2300.00 184.60 6618.26 4 -2300.00 139.89 4458.15 5 -2300.00 94.24 2252.39 6 -2300.00 47.61 .00
paying you back with 6 monthly payments of $2,300 (what YOU'd pay if no deal).
The resulting "interest rate per month" is ~2.1137%
Calculating this rate requires iteration.
Take over, D.W.Smith
This seems like a real life scenario not a question from a student.
The current 1 year T-Bill is paying 0.31%
I discounted back 2300 at beginning of year payments.
The PV of those payments is $13,693.82
The PV of 2139 is $12,735.25
However, in order to obtain the deal, you have to pay up front and can't pay monthly.
You will save 13,693.82 - 12,834 = $859.82
Or looking at FV
FV 12834 is 13074
FV of 6 2300 payments 13950.51
The discount is the better deal.
Not much to explain:
Lessee:
1: we know that $12,834 is paid upfront
2: we know that because of that, $2,300 monthly will not be paid for 6 months
Landlord:
1: will receive $12,834
2: will repay with 6 monthly payments of $2,300 (equivalent to not receiving these payments...);
...or, if you wish, will receive $2,300 but give it right back to the lessee as loan repayment!
Another way to "look" at it:
Landlord sells an annuity of 6 monthly payments of $2,300 for $12,834;
the $2,300 rent payments are then remitted to the purchaser.
In this case, the purchaser is the lessee.
The fact that $12,834 = 6 * .93(2300) has nothing to do with the exercise...
One other matter...PremiumCans, when are those monthly rent payments due? If you're paying $12,834 on or about Dec 31 to save 6 cash outflows of $2,300 on Jan 1, Feb 1, ...., Jun 1, then your actual annualized return comes in at just south of 36% (~ 3.0 % per month).
(And don't let your landlord read this thread....he's borrowing 12,834 at a pretty hefty effective cost!)