Question

Question (Sunk Costs and Opportunity Costs): You are thinking of starting a computer leasing business. You have paid a consultant $5,000 to do a market survey for you. She tells you that you can buy 100 computers for $200,000 and will be able to rent it out each or $900 a year for the first 2 years and $550 a year for the next two years. After 4 years the computers will be too old to be worth anything and will not have no salvage value. IRS allows you to straight line depreciation the cost of the computer over 4 years for tax purposes (equal depreciation in all years and not an accelerated schedule of deprecation). You need to use an office space you own. If you do not start the computer leasing business you could rent out the space for $30,000 (before taxes and paid yearly). Assume that the tax rate is 34% and the discount rate for you undertaking such a project is 10%. What is the depreciation? What will be the EBIT; What will be the taxes you will pay? What will be your Net Income? What will be your OCF? What will be the NPV of the project>

Answer 1

COMPUTER ACQUIRING OPTION:
Year	Cash flow	Depreciation	EBIT	Tax	NI	Ope. C F	Discount rate 10%	PV
0	-205000					-205000	1	-205000
1	90000	50000	40000	13600	26400	76400	0.909	69447.6
2	90000	50000	40000	13600	26400	76400	0.826	63106.4
3	55000	50000	5000	1700	3300	53300	0.751	40028.3
4	55000	50000	5000	1700	3300	53300	0.683	36403.9
NPV=								3986.2
OFFICE RENTING OPTION:
Year	Cash flow	Tax	NI / Ope. C F	Discount rate 10%	PV
1	30000	10200	19800	0.909	17998
2	30000	10200	19800	0.826	16355
3	30000	10200	19800	0.751	14870
4	30000	10200	19800	0.683	13523
NPV=					62746