Seven Day Mini Mart Is Considering Installing Video Games in Its

question 57

Essay

Seven Day Mini Mart is considering installing video games in its stores. The machines cost $300,000 and have an estimated six-year useful life. Ignore income taxes. The following projected income statement is provided:
Required:
1) Seven Day Mini Mart would like to recoup its original investment in less than five years. Compute the payback period for the video game machine investment. Would you recommend that the machines be purchased? Why or why not?
2) Seven Day Mini Mart's target unadjusted rate of return is 12%. Compute the unadjusted rate of return on the original investment. Would you recommend that the machines be purchased? Why or why not?
$\begin{array}{l|l|l|}\hline\text { Video game revenue } & & \$ 100,000 \\\hline \text { Less expenses: } & &\\\hline \text { Electricity, supplies, etc. } & \$ 2,000 \\\hline \text { Insurance } & 7,000 \\\hline \text { Maintenance } & 1,000 \\\hline \text { Depreciation } & 50,000 &60,000\\\hline\text { Net income }&&\$40,000\\\hline\\\hline\end{array}$

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Definitions:

Break-Even Price

The market price that an asset must reach for an investor to recover their initial investment without making a profit or loss.

Call Option

A financial contract that gives the buyer the right, but not the obligation, to buy an asset at a specified price within a specified time.

Premium

Premium often refers to the additional cost above the normal or nominal amount, in contexts such as insurance payments, above-par bond prices, or the price paid for options contracts.

Lookback Options

A type of option which allows the holder to "look back" over the time period of the option to select a price that is most advantageous for exercising their option.