Two dealers compete to sell you a new Hummer with a list price of $45,000. Dealer C offers to sell it for $40,000 cash. Dealer F offers “0-percent financing:” 48 monthly payments of $937.50. (48x937.50=45,000)

You can finance purchase by withdrawals from a money market fund yielding 2% per year. Which of the following statements is true?

• Financing option costs less because the present value of the payments is less than $40,000
• Financing option costs more because the present value of the payments exceeds $43,000
• Financing option costs more because the present value of the payments exceeds $45,000
• Financing option costs less because the present value of the payments is less than $38,000
• Both options are equally attractive

References

Lo, Andrew W.; Wang, Jiang. "MIT Sloan Finance Problems and Solutions Collection Finance Theory I" (PDF). alo.mit.edu. Retrieved November 20, 2023.

Solution: B

Cash option PV = [math]\$ 40,000[/math]

Financing option PV 2% = [math]937.5 \times \frac{1}{1.02^{1 / 12}-1} \times\left(1-\frac{1}{\left(1.02^{(1 / 12)}\right)^{48}}\right)=\$ 43,228[/math]

Cash option costs less

References

Lo, Andrew W.; Wang, Jiang. "MIT Sloan Finance Problems and Solutions Collection Finance Theory I" (PDF). alo.mit.edu. Retrieved November 30, 2023.