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Denver Fast Food Chain: Optimal Sale Time for a Franchise Store

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A fast-food chain headquartered in Denver prefers to run stores for a few years and then sell them to franchise operators. The franchise operators pay an average fee of $100,000 a year per store above the cost of services provided. The company earns an average of $350,000 a year by operating a store itself. Sales prices, which depend on the time of sale, follow:

Year 5 10 15 20
Sales price 1,250,000 1,000,000 800,000 50,000

The operating life of a store is 20 years. The company's required return is 14%, and it costs $1.5 million to build a store. The sale of a store does not free up any resource other than capital (the company is not operating under capital rationing) because it takes as much supervision for a franchise store as for a company-owned store.

What is the optimum sale time assuming year-end cash flow for simplicity?

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Solution Summary

The solution determines what the optimum sale time assuming year-end cash flow for simplicity is (see attachment).

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