Question

The Borstal Company has to choose between two machines that do the same job but have...

The Borstal Company has to choose between two machines that do the same job but have different lives. The two machines have the following costs:

Year Machine A Machine B
0 $48,500 $58,500
1 11,700 11,400
2 11,700 11,400
3 11,700 + replace 11,400
4 11,400 + replace


These costs are expressed in real terms.

a. Suppose you are Borstal’s financial manager. If you had to buy one or the other machine and rent it to the production manager for that machine’s economic life, what annual rental payment would you have to charge? Assume a 13% real discount rate and ignore taxes.

Annual Rental Payment

Machine A ____________

Machine B_____________

b. Which machine should Borstal buy?

  • Machine A

  • Machine B



c. If there is steady 7% per year inflation, what will be the annual rental payment for machine B for the second year? (Enter your answer as a positive value rounded to 2 decimal places.)

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Homework Answers

Answer #1

a) What would be annual rental?

Calculation of equivalent annual cost MAchine A

= [Machine cost / Cumulative discounting factor @ 13% for 3Years] +  Annual cost

= (48500 / 2.36115) + 11700

= 32240.84

Calculation of equivalent annual cost MAchine B

= = [Machine cost / Cumulative discounting factor @ 13% for 5 Years] +  Annual cost

=(58500 /3.51723) + 11400

= 28032.41

Annual rental to charge MAhine A = 32240.84 and MAchine B 28032.41

b) MAchine B should be buyed as shown above due to low annual cost 28032.41

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