Yoyo's Frozen Yogurt,Inc.is thinking of building a new warehouse.They believe that this will give them $50,000 of additional revenue at the end of one year,$60,000 additional revenue at the end of two years,and $70,000 in additional revenue at the end of three years.If the interest rate is 5 percent,Yoyo would be willing to pay
A)$140,000,but not $150,000.
B)$150,000,but not $160,000.
C)$160,000,but not $170,000.
D)$170,000,but not $180,000.

Question

Quizplus · Accepted Answer

To determine the present value of the additional revenue generated by the new warehouse, we need to discount the future cash flows back to the present using the interest rate of 5%.

Using the formula PV = FV / (1 + r)^n, where PV is the present value, FV is the future value, r is the discount rate, and n is the number of periods:

PV(1 year) = $50,000 / (1 + 0.05)^1 = $47,619.05
PV(2 years) = $60,000 / (1 + 0.05)^2 = $52,154.19
PV(3 years) = $70,000 / (1 + 0.05)^3 = $56,678.28

The total present value of the additional revenue is therefore:

PV = $47,619.05 + $52,154.19 + $56,678.28 = $156,451.52

Yoyo's maximum willingness to pay should be the present value of the additional revenue. Since $156,451.52 is below $160,000 and above $150,000, the best choice is C) $160,000, but not $170,000.