Question

A firm can lease a truck for 5 years at a cost of $42,000 annually. It can instead buy a truck at a cost of $92,000, with annual maintenance expenses of $22,000. The truck will be sold at the end of 5 years for $32,000.

a. What is the equivalent annual cost of buying and maintaining the truck if the discount rate is 12%? (Do not round intermediate calculations. Round your answer to 2 decimal places.)

b. Which is the better option?

Buy

Lease

Answer 1

Lease option
Statement showing Cash flows
Particulars	Time	PVF 12%	Amount	PV
Cash Outflows	1.00	0.8929	42,000.00	37,500.00
Cash Outflows	2.00	0.7972	42,000.00	33,482.14
Cash Outflows	3.00	0.7118	42,000.00	29,894.77
Cash Outflows	4.00	0.6355	42,000.00	26,691.76
Cash Outflows	5.00	0.5674	42,000.00	23,831.93
Present value of Cash Outflows				151,400.60
PVF for 3 Years				3.6048
EAC				42,000.00
Buy Option
Statement showing Cash flows
Particulars	Time	PVF 12%	Amount	PV
Cash Outflows	-	1.0000	92,000.00	92,000.00
Cash Outflows	1.00	0.8929	22,000.00	19,642.86
Cash Outflows	2.00	0.7972	22,000.00	17,538.27
Cash Outflows	3.00	0.7118	22,000.00	15,659.17
Cash Outflows	4.00	0.6355	22,000.00	13,981.40
Cash Outflows	5.00	0.5674	22,000.00	12,483.39
Cash Outflows = Salvage Value	5.00	0.5674	(32,000.00)	(18,157.66)
Present value of Cash Outflows				153,147.42
PVF for 3 Years				3.6048
EAC				42,484.58
Lease option is better since it has lower EAC of 42,000