If the Rhine Company ignores the possibility that other firms may enter its market, it should set a price of $10,000 for its product, which is a power tool. But ifit does so, other firms will begin to enter the market. During the next two years it will earn $4 million per year, but in the following two years it will earn $1million per year. On the other hand, if it sets a price of $7,000, it will earn $2.5 million in each of the next four years because no entrants will appear.Try various discount (interest) rates and draw a conclusion about the timing of profits

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Asked Oct 3, 2019
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If the Rhine Company ignores the possibility that other firms may enter its market, it should set a price of $10,000 for its product, which is a power tool. But if
it does so, other firms will begin to enter the market. During the next two years it will earn $4 million per year, but in the following two years it will earn $1
million per year. On the other hand, if it sets a price of $7,000, it will earn $2.5 million in each of the next four years because no entrants will appear.
Try various discount (interest) rates and draw a conclusion about the timing of profits
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If the Rhine Company ignores the possibility that other firms may enter its market, it should set a price of $10,000 for its product, which is a power tool. But if it does so, other firms will begin to enter the market. During the next two years it will earn $4 million per year, but in the following two years it will earn $1 million per year. On the other hand, if it sets a price of $7,000, it will earn $2.5 million in each of the next four years because no entrants will appear. Try various discount (interest) rates and draw a conclusion about the timing of profits

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Expert Answer

Step 1

 Calculation of Present values when Selling Price of the unit is $10,000 and Firms enter into the market.

Calculation of present values at various discount rates using excel:

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1Particulars 2 Profits yeard 1000000 F2/015 Year 0 Year 1 Year 2 year 3 1000000 4000000 4000000 с2/р15 D2/D15 E2/D15 =1/1,025 3 3 No. of units sold 1/1.025 Present value factor @2.5 % 1/1.0252 1/1.0254 4 5 Present value 6 Present value factor@s% 7 Present value =SUM(CS: F5) -E2"64 C2C4 -D2 04 F2*F4 1/1.05 1/1.0562 =1/1.053 1/1.054 SUM(C7:F7 C6 C2 D6 D2 E6 E2 F6 F2 1/1.075 4 1/1.075 1/1.0752 1/1.07543 8Present value factor @7.5% SUMIC9:F9) 9 Present value C8 C2 D8 02 E8E2 F8 F2 10 Present Value@ 10 % 1/1.13 1/1.14 =1/1.1 1/1.142 11 Present value -SUMIC11:F11) с10°с2 -D10 02 E10 E2 F10 F2 12 13 14 Selling Price 15 10000

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Step 2

The result of the above:

Conclusion:

When profits are changing every 2 years, then present value of profits are decreasing as the intrest rates are increasing.

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A B C D 1 Particulars Year 2 Year 0 Year 1 year4 year 3 2 Profits $4,000,000 $4,000,000 $1,000,000 $1,000,000 No. of units sold 3 400 400 100 100 Present value factor @2.5% 4 0.97560976 0.95181440 0.92859941 0.90595064 5 Present value $9,544,246.66 $3,902,439.02 $3,807, 257.58 $928,599.41 $905,950.64 6 Present value factor@5% 7 Present value 8 Present value factor @7.5% 0.95238095 0.94679038 0.86383760 0.82270247 $9,283,225.41 $3,809,523.81 $3,787, 161.52 $863,837.60 $822,702.47 0.93023256 0.86533261 0.80496057 0.74880053 9 Present value $8,736,021.78 $3,720,930.23 $3,461, 330.45 $804,960.57 $748,800.53 10 Present Value @ 10% 0.90909091 0.82644628 0.75131480 0.68301346 $8,376,477.02 $3,636,363.64 $3,305,785.12 $751,314.80 $683,013.46 11 Present value 12 13 14 $10,000 Selling Price 15

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Step 3

Calculation of Present values when Selling price per unit is $7,000 and no firms can enter int...

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Year1 2500000 C2/SE14 1/1.025 C4"C$2 1 / 1.05 C6 C$2 =1/ 1.075 C8 C$2 =1/1.1 |C10 C$2 Year3 2500000 E2/SE14 =1/1.025A3 -E4"ES2 1/ 1.05A3 -E6 ES2 1/ 1.075A3 -E8 E$2 -1/ 1.13 -E10 E$2 Year4 |2500000 =F2/ SE14 =1/1.0254 F4*F$2 1 / 1.05 4 =F6 F$2 1 / 1.0754 =F8 F$2 = 1 / 1.14 =F10 FS2 Year2 2500000 1 Particulars yearo 2 Profits D2/SE14 =1/1.02562 D4 D$2 =1/ 1.0542 3 No. of units sold 4 Present value Factor @2.5 % |=SUM(CS:F5) 5 Present value 6 Present value factor@ 5 % 7 Present value |-SUM(C7:F7) D6 "DS2 1 / 1.075 2 D8 DS2 1 / 1.142 -D10 D$2 8 Present value factor @7.59% |=sUM(C9: F9 ) 9 Present value 10 Present value factor@10 % |-SUM(C11:F11) 11 Present value 12 13 Selling Price 14 7000

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