Question

Roberts Fabrication and Automation, Inc. (RFA) just completed its Capital Budgeting analysis for a new metallic...

Roberts Fabrication and Automation, Inc. (RFA) just completed its Capital Budgeting analysis for a new metallic 3D printing machine that will aid in the design and production of new “classic” and customautomotive components. The NPV is positive and significant, the IRR is well above the 12% project hurdle rate (required return), and RFA has decided to move forward with the project.

The next part of their analysis involves the financing of the machine, that is, whether to purchase, or to lease the machine.

If the printer is purchased:

The initial investment (printer cost, shipping, & installation) is $347,500. RFA expects to borrow this amount from the 4th Tennessee Bank of the Southeast with a term of 4 years and an interest rate of 7.25%. The loan would be fully amortized and call for annual payments at the end of each year. Maintenance costs are predicted to be $20,000 per year. Base on Internal Revenue Service guidelines, the printer will be depreciated using MACRS (half-year convention) and a 5 year class-life. RFA’s tax rate is 31%

The Leasing option:

The printer will be made by Custom Tools of Middle Tennessee. It has offered to lease the printer to RFA as an alternative to the purchase option. Their proposed lease terms are:

  •  Lease payments of $89,250 per year beginning on the installation of the printer with a total of 5 payments. (This means payments at t = 0, 1, 2, 3, and 4).

  •  The Lease payments above include all maintenance.

    RFA expects to operate this project for 4 years (and no more), regardless of whether is purchases orleases the printer. The printer is expected to have a market value of $42,500 (“salvage value”) at the endof the 4 year project. Consider this to be a guideline lease for IRS purposes.

    Using a blank worksheet (or page of paper) conduct the Lease vs Buy analysis.

a. Using Custom Tools’ proposed lease terms, what is the NAL, and should the 3d printer be leased or

purchased?

b. Using your first analysis (part a.), at what lease payment would the firm be indifferent to either leasing or buying? That is, what annual lease payment results in a NAL=0?

c. The salvage value is the most uncertain cash flow in the analysis. With the additional risk of that cash flow (assume a pre-tax discount rate of 15 percent for this item), what would be the effect of a salvage value risk adjustment on the decision? That is, what is the revised NAL, and decision in this scenario? Note: The salvage value is the only cash flow affected in this scenario.

*****Need help with Part B. Please provide mathematical steps with the full SYNTAX please!*****

Homework Answers

Answer #1

Option 1 : Buy Printer

Initial investment : 347,500/- , tenure 4 years ,

rate of interest :7.25%

Based on the above details monthly EMI is - 8361.68.

i.e. yearly payment of 100,340.22

Total payment under scheme will be : 100340.22*12+20000*4(maintaenance cost)-42500(salvage value)=438,860/-

This cost is ignoring the tax benefit available on the interest payment

Option 2 : Total payment = 89250*5 = 446250

a) Based on the above options printer should be purchased

b) We should be indifferent only if cost from both the options are same , i.e. option 1 = option 2 .

Hence option 2 final price should be 438860/4=87,772/-

c) With the pre-tax discount of 15% on the salvage value final cost of option 1 will be -445,235.88/-

  

Know the answer?
Your Answer:

Post as a guest

Your Name:

What's your source?

Earn Coins

Coins can be redeemed for fabulous gifts.

Not the answer you're looking for?
Ask your own homework help question
Similar Questions
In performing an after tax analysis for a new $50,000.00 machine for a a fiber optics...
In performing an after tax analysis for a new $50,000.00 machine for a a fiber optics manufacturing, a cash flow before taxes (CFBT) of $10,000 is expected the first year, $20,000.00 thereafter and $10,000 the last year. If a recovery period of 5 years applies, use an effective tax rate of 35% and a return rate of 8% per year. Assume that the salvage value is zero. Using a MACRS depreciation method a)compute the CFAT, b) determine whether the project...
Company is considering adding a new line to its product mix, and the capital budgeting analysis...
Company is considering adding a new line to its product mix, and the capital budgeting analysis is being conducted by a MBA student. The production line would be set up in unused space (Market Value Zero) in Sugar Land’ main plant. Total cost of the machine is $350,000. The machinery has an economic life of 4 years and will be depreciated using MACRS for 3-year property class. The machine will have a salvage value of $35,000 after 4 years. The...
quiz 3 Devon Corporation uses a discount rate of 8% in its capital budgeting. Partial analysis...
quiz 3 Devon Corporation uses a discount rate of 8% in its capital budgeting. Partial analysis of an investment in automated equipment with a useful life of 6 years has thus far yielded a net present value of ?$497,341. This analysis did not include any estimates of the intangible benefits of automating this process nor did it include any estimate of the salvage value of the equipment. (Ignore income taxes.) Click here to view Exhibit 13B-1 and Exhibit 13B-2 to...
Lease versus Buy Big Sky Mining Company must install $1.5 million of new machinery in its...
Lease versus Buy Big Sky Mining Company must install $1.5 million of new machinery in its Nevada mine. It can obtain a bank loan for 100% of the purchase price, or it can lease the machinery. Assume that the following facts apply: The machinery falls into the MACRS 3-year class. (The depreciation rates for Year 1 through Year 4 are equal to 0.3333, 0.4445, 0.1481, and 0.0741.) Under either the lease or the purchase, Big Sky must pay for insurance,...
Big Sky Mining Company must install $1.5 million of new machinery in its Nevada mine. It...
Big Sky Mining Company must install $1.5 million of new machinery in its Nevada mine. It can obtain a bank loan for 100% of the purchase price, or it can lease the machinery. Assume that the following facts apply: The machinery falls into the MACRS 3-year class. (The depreciation rates for Year 1 through Year 4 are equal to 0.3333, 0.4445, 0.1481, and 0.0741.) Under either the lease or the purchase, Big Sky must pay for insurance, property taxes, and...
123 Inc. is considering purchasing a new machine. The machine will cost $3,250,000. The machine will...
123 Inc. is considering purchasing a new machine. The machine will cost $3,250,000. The machine will be used for a project that lasts 3 years. The expected salvage of the machine at the end of the project is $800,000. The machine will be used to produce widgets. The marketing department has forecasted that the company will be able to sell 280,000 widgets per year. The marketing department believes that the company will be able to charge $22 per widget. The...
123 Inc. is considering purchasing a new machine. The machine will cost $3,250,000. The machine will...
123 Inc. is considering purchasing a new machine. The machine will cost $3,250,000. The machine will be used for a project that lasts 3 years. The expected salvage of the machine at the end of the project is $800,000. The machine will be used to produce widgets. The marketing department has forecasted that the company will be able to sell 280,000 widgets per year. The marketing department believes that the company will be able to charge $22 per widget. The...
New-Project Analysis The president of the company you work for has asked you to evaluate the...
New-Project Analysis The president of the company you work for has asked you to evaluate the proposed acquisition of a new chromatograph for the firm’s R&D department. The equipment's basic price is $73,000, and it would cost another $18,500 to modify it for special use by your firm. The chromatograph, which falls into the MACRS 3-year class, would be sold after 3 years for $29,500. The MACRS rates for the first 3 years are 0.3333, 0.4445 and 0.1481. Use of...
New-Project Analysis The president of the company you work for has asked you to evaluate the...
New-Project Analysis The president of the company you work for has asked you to evaluate the proposed acquisition of a new chromatograph for the firm’s R&D department. The equipment's basic price is $73,000, and it would cost another $15,000 to modify it for special use by your firm. The chromatograph, which falls into the MACRS 3-year class, would be sold after 3 years for $31,800. The MACRS rates for the first 3 years are 0.3333, 0.4445 and 0.1481. Use of...
Napier Paper Inc. is deciding whether to build a new manufacturing plant. The proposed project would...
Napier Paper Inc. is deciding whether to build a new manufacturing plant. The proposed project would have an upfront cost (at t = 0) of $30 million. The project's cost can be depreciated on a straight-line basis over three years. Consequently, the depreciation expense will be $10 million in each of the first three years, t = 1, 2, and 3. Even though the project is depreciated over three years, the project has an economic life of five years. The...