Question

Assume the Sheltons spend an average of $5 per week at Presto Cleaner. Presto Cleaner makes a 50% margin on Mr. Shelton’s purchases. Mr. Shelton is expected to be a regular customer at Presto Cleaner for the next 4 years, before he and his wife move to a different neighborhood.

1. What is the value, in today’s dollars, of the Sheltons’ purchase to Presto Cleaner? Assume an interest rate of 10%. For purposes of calculation, assume that all of the Sheltons’ purchases are lumped together at the end of the year. Assume there are exactly 52 weeks in a year. Please fill in the blanks in the second and the last column of the table below (10 points).

2. Assume that at the end of year #2, the Sheltons request $200 fromPresto Cleaner as a compensation for the last unsatisfactory cleaning service. If not compensated, they will switch to other cleaning service providers. Shall Presto Cleaner comply with such a request, yes or no? And why? (20 points)

Customer Lifetime Value Analysis Assume the Sheltons spend an average of $5 per week at Presto Cleaner. Presto Cleaner makes a 50% margin on Mr. Shelton's purchases. Mr. Shelton is expected to be a regular customer at Presto Cleaner for the next 4 years, before he and his wife move to a different neighborhood. 1. What is the value, in today's dollars, of the Sheltons' purchase to Presto Cleaner? Assume an interest rate of 10%. For purposes of calculation, assume that all of the Sheltons' purchases are lumped together at the end of the year. Assume there are exactly 52 weeks in a year. Please fill in the blanks in the second and the last column of the table below (10 points). Year Estimated profit ($) Annual discount rate Cumulative discount factor Discounted cash flow 10% 0.91 10% 0.83 10% 0.75 10% 0.68 Total 2. Assume that at the end of year #2, the Sheltons request $200 from Presto Cleaner as a compensation for the last unsatisfactory cleaning service. If not compensated, they will switch to other cleaning service providers. Shall Presto Cleaner comply with such a request, yes or no? And why? (20 points)

Answer 1

$ Weekly Revenue Margin Weekly Profit No of weeks in a year Annual Profit 5.00 50% 2.50 52 $ 130.00 Year Estimated Profits ($) 130.00 130.00 130.00 130.00 Annual discount rate 10% 10% 10% 10% Total Cumulative Discounted discount factor cash flow 0.91 $ 118.30 0.83 $ 107.90 0.75 $ 97.50 0.68 $ 88.40 $ 412.10 Today value to Presto Cleaner is $ 412.10 2) At the End of Year 2, Compensation to be paid $200 Compensation Amount to be paid at end of year 2 Present Value of compensation at end of year 2 $ $ 200.00 200.00 Year Present Value of Future Profits to be earned from Shelton in next two years: Annual discount | Cumulative | Discounted Estimated Profits ($) rate discount factor cash flow 1 $ 130.00 10% 0.91 $ 118.30 130.00 10% 0.83 $ 107.90 Total $ 226.20 So as we can see that present value of Profit to be earned in next two years is higher than present value of compensation to be paid at year end 2. So Presto shall comply with request.