Question

SALLY’S CAKE WORLD buys a CNC (computerized) cake icing machine. Its cost is $125,000. In nine years it can be salvaged for $37,500. Bubba Inc. will loan the money needed at 9 percent per annum payable annually over nine years.

Alternatively, “Leasco” will finance the lease for those same nine years, $15,800 payable at the beginning of each year.

Onwell Futures’s tax rate is 44 percent. Travelling machines have a CCA rate of 40 percent. Ownership will have an annual maintenance cost of $1,300. Should Sally lease or buy the “CNC ICING MEISTER”? Show all calculations.

Answer 1

The problem is solved by comparing the Net present value under both buying and leasing options. The option that has least net present value of cashoutflows, shall be selected.

Assumption: Since Cost of capital at which the Cash flows shall be discounted is not given, it is assumed to be same as interest rate, that is 9%

Note: The Lease intsallment is paid in the beginning of the Oth year, for which the tax benefit is available in 1st year and so on.

Therefore it is clear that the net present value of cash outflows in the leasing option is lower. Hence Leasing option should be selected.