Hansus Enterprises is a start-up small business specializing in software systems for machine-based high-school student tutoring in science and math. Sheryl Hansus, the owner, has spoken with lenders to obtain a loan of $50,000 now (year 0), and the same amount in years 3 and 6. Two different repayment schedules are available. They are: Schedule A: Pay a uniform amount of $19,500 in years 3 through 12. Schedule B: Pay a uniform amount of $20,000 in years 1 through 6, with “balloon” payments of an additional $20,000 in year 2 and a final amount of $40,000 in year 7.

Question

To assist in the decision of which schedule to select, determine the following using a
spreadsheet:
(a) Total amount repaid for each schedule. Which is smaller?
(b) The equivalent annual worth of the loan amounts and of the repayments at i = 5% per year over a 12-year evaluation period. Which schedule has the smaller loss per year? Why is this the case?

What will be an ideal response?

Answer 1

(a) Amount re-paid is $195,000 for Schedule A, and less at $180,000 for Schedule B.

(b) Annual equivalent loss at 5% over 12 years of $685 is less for Schedule A, even though Schedule B requires less total re-payment by $15,000. Placement of payments and the time value of money make the difference.