Problem #1? ?The Pierced Ear, Inc. The Pierced Ear, Inc. hasbeen solicited by an owner of five stores within the greater LosAngeles area who is contemplating the sale of his company andexploring the possibility of The Pierced Ear as a potential buyer.Listed below are the five stores and the sales volume for theirmost recent fiscal year: GLENDALE ?WEST SIDE ? MONTEBELLO ? FOXHILLS ?SHERMAN GALLERIA?PAVILION ?TOWN CENTER? MALL ?OAKS ?$452,000? $350,000 ? $325,000?$365,000 ? $311,000 The Pierced Ear feelsthat the annual sales volume most recently generated by theexisting company is a basis for projecting its own sales. As aguideline, the merchandising department feels that there is a 40%probability that the stores will do last year's business....a 40%probability that they will do 5% more volume than last year...andlastly, a 20% probability that they will do 10% more volume thanlast year. Given the projected first year's sales volume (fromabove) that The Pierced Ear anticipates generating; it is projectedthat the sales will thereafter experience a compound annual growthrate of 3% per year until all leases expire. Each of the stores has6 years left on their respective leases with no provision forrenewing the leases at their intended expiry date. The Pierced Earfeels that each store will initially require a $50,000 remodelingcost immediately upon purchase of the stores, as well as animmediate required inventory investment of $50,000 in each of thefive locations, with an additional amount of required inventory inthe following year of $20,000 for each of the locations. ThePierced Ear estimates that the Gross Profit will approximate 60% ofSales and Total Operating Expenses are estimated at 44% of Sales.Aggregate depreciation, for all of the stores, (the provision ofwhich, is already included in Operating Expenses), is estimated at$100,000 per year. The combined Federal and State marginal tax rateis 25%. The Pierced Ear, Inc. explores each potential location itopens through a "Net Present Value" analysis. The acquisition, ifundertaken, will be all equity financed. Thus, as to its Cost ofEquity Capital, The Pierced Ear utilizes an industry proxy of 18%.The owner of the five stores is seeking $650,000 for all the assetsand rights of all of his five stores under the respective leases.It is assumed that The Pierced Ear could immediately sell off thepresent owner’s inventory (which has an estimated retail value of$150,000), for 50% of its original retail (disregard any taxconsiderations in connection with the salvage value of the seller’sinventory). The deal is essentially all five stores or nothing atall. With consideration to the above, should The Pierced Ear, Inc.undertake the acquisition? Does the deal make sense as it stands ORif it does not appear viable, what might you counter-propose to theseller? Please quantify the results of your recommendation(s).Note…because it is an all or nothing at all deal, there is no needto individualize each store, but to view the value of the proposalin its entirety.