Question

In: Finance

The lavish carpet manufacturing co. has decided to acquire a new machine that has an economic...

The lavish carpet manufacturing co. has decided to acquire a new machine that has an economic life of 10 years, with no residual value. The machine can be purchased for $75,000 and the supplier is willing to advance $45,000 of the purchase price at 12 percent. The loan is to be repaid in equal instalments over 10 years. Lavish Carpet pays 40 percent corporate income tax and can claim 20 percent capital cost allowances on the purchased asset. It expects to negotiate a further $30,000, 10 year loan with a financial institution at 14 percent interest thereby financing any purchase entirely through debt. Meanwhile midland leasing ltd. has also offered to make the equipment available under a 10-year financial lease. Lease payments of $11,200 are to the paid at the end of each year. How should the asset be acquired?

Solutions

Expert Solution

Since -ve NPV project at Cost of Capital of 15%, it is better to go for leasing.

0 1 2 3 4 5 6 7 8 9 10
Interest on Loan-Supplier $   5,400.00 $    5,092.29 $   4,747.65 $   4,361.65 $   3,929.33 $   3,445.14 $    2,902.84 $    2,295.46 $    1,615.21 $        853.32
Interest on Loan- Institution $   4,200.00 $    3,982.80 $   3,735.20 $   3,452.93 $   3,131.14 $   2,764.31 $    2,346.11 $    1,869.37 $    1,325.89 $        706.31
CCA $   7,500.00 $ 13,500.00 $ 10,800.00 $   8,640.00 $   6,912.00 $   5,529.60 $    4,423.68 $    3,538.94 $    2,831.16 $    2,264.92
Total expenses for buying machine $ 17,100.00 $ 22,575.09 $ 19,282.84 $ 16,454.58 $ 13,972.47 $ 11,739.04 $    9,672.63 $    7,703.78 $    5,772.25 $    3,824.55
Expenses in case of leasing $ 11,200.00 $ 11,200.00 $ 11,200.00 $ 11,200.00 $ 11,200.00 $ 11,200.00 $ 11,200.00 $ 11,200.00 $ 11,200.00 $ 11,200.00
Incremental profit over leasing $ -5,900.00 $ -11,375.09 $ -8,082.84 $ -5,254.58 $ -2,772.47 $     -539.04 $    1,527.37 $    3,496.22 $    5,427.75 $    7,375.45
Tax $ -2,360.00 $   -4,550.04 $ -3,233.14 $ -2,101.83 $ -1,108.99 $     -215.62 $        610.95 $    1,398.49 $    2,171.10 $    2,950.18
PAT $ -3,540.00 $   -6,825.05 $ -4,849.71 $ -3,152.75 $ -1,663.48 $     -323.43 $        916.42 $    2,097.73 $    3,256.65 $    4,425.27
Principle on Loan-Supplier $ -2,564.29 $   -2,872.00 $ -3,216.64 $ -3,602.64 $ -4,034.96 $ -4,519.15 $   -5,061.45 $   -5,668.82 $   -6,349.08 $   -7,110.97
Principle on Loan- Institution $ -1,551.41 $   -1,768.60 $ -2,016.21 $ -2,298.48 $ -2,620.26 $ -2,987.10 $   -3,405.29 $   -3,882.04 $   -4,425.52 $   -5,045.09
CCA $   7,500.00 $ 13,500.00 $ 10,800.00 $   8,640.00 $   6,912.00 $   5,529.60 $    4,423.68 $    3,538.94 $    2,831.16 $    2,264.92
Net Cash flow $     -155.69 $    2,034.34 $      717.44 $     -413.86 $ -1,406.70 $ -2,300.08 $   -3,126.64 $   -3,914.18 $   -4,686.79 $   -5,465.87
NPV @ Cost of capital at 15% $   -5,194.13
IRR 50.27%
Given
Tax rate 40%
CCA 20%
Book value of machine for CCA $ 75,000.00 $ 67,500.00 $ 54,000.00 $ 43,200.00 $ 34,560.00 $ 27,648.00 $ 22,118.40 $ 17,694.72 $ 14,155.78 $ 11,324.62 $    9,059.70
Machine cost $ -75,000.00
Loan-Supplier
Loan amount $ 45,000.00
Interest rate 12%
Per year repayment $    7,964.29
Principle at each year $ 45,000.00 $ 42,435.71 $ 39,563.71 $ 36,347.07 $ 32,744.43 $ 28,709.47 $ 24,190.32 $ 19,128.87 $ 13,460.05 $    7,110.97 $            0.00
Interest $   5,400.00 $    5,092.29 $   4,747.65 $   4,361.65 $   3,929.33 $   3,445.14 $    2,902.84 $    2,295.46 $    1,615.21 $        853.32
Loan- Institution
Loan amount $ 30,000.00

Related Solutions

The Lavish Carpet Manufacturing Co. has decided acquire a new machine that has an economic life...
The Lavish Carpet Manufacturing Co. has decided acquire a new machine that has an economic life of 10 years, with no residual value. The machine can be purchased for $75,000, and the supplier is willing to advance $45,000 of the purchase price at 12 percent. The loan is to be repaid in equal instalments over 10 years. Lavish Carpet pays 40 percent corporate income tax and can claim 20 percent capital cost allowances on the purchased asset. It expects to...
1) The lavish carpet manufacturing co. has decided to acquire a new machine that has an...
1) The lavish carpet manufacturing co. has decided to acquire a new machine that has an economic life of 10 years, with no residual value. The machine can be purchased for $75,000 and the supplier is willing to advance $45,000 of the purchase price at 12 percent. The loan is to be repaid in equal instalments over 10 years. Lavish Carpet pays 40 percent corporate income tax and can claim 20 percent capital cost allowances on the purchased asset. It...
Duhok Inc. has decided to acquire a new machine that can either be purchased for $4,200,000...
Duhok Inc. has decided to acquire a new machine that can either be purchased for $4,200,000 and depreciated at a 30% CCA rate or leased for a 5-year period for $800,000 per year (due at the beginning of each year). The firm can borrow at 8%, has a 40% marginal tax rate, and 12% WACC. The new machine has an expected useful life of 5 years and an expected salvage value of $1,000,000 at the end of the fifth year....
. Rabbit Co has 2 options to acquire a new machine with an estimated useful life...
. Rabbit Co has 2 options to acquire a new machine with an estimated useful life of 6 years. It can buy it today, the 1st January 20X3 at a cash price or it can lease the asset under the following agreement: Fair value of the asset - $100,000 An initial payment of $13,760 will be payable straight away 5 further annual payments of $20,000 will be due, beginning on 1st Jan 20X3 The interest rate implicit in the lease...
The management of The Alexandrov Company decided to acquire the use of a machine to be...
The management of The Alexandrov Company decided to acquire the use of a machine to be used in its manufacturing process. The machine is manufactured only by Chang, Incorporated and would have a useful life of ten years. Chang’s management has presented Alexandrov with the following acquisition options: Lease: The machine could be leased for an eight-year period for an annual lease payment of $60,000, with the first payment due on the date that the agreement is signed. Related annual...
The management of The Alexandrov Company decided to acquire the use of a machine to be...
The management of The Alexandrov Company decided to acquire the use of a machine to be used in its manufacturing process. The machine is manufactured only by Chang, Incorporated. The machine would have a useful life of ten years and would then be sold for $10,000 at the end of its useful life. Chang’s management has presented Alexandrov with the following acquisition options: Lease: The machine could be leased for an eight-year period for an annual lease payment of $25,000,...
The management of The Alexandrov Company decided to acquire the use of a machine to be...
The management of The Alexandrov Company decided to acquire the use of a machine to be used in its manufacturing process. The machine is manufactured only by Chang, Incorporated. The machine would have a useful life of ten years and would then be sold for $10,000 at the end of its useful life. Chang’s management has presented Alexandrov with the following acquisition options: Lease: The machine could be leased for an eight-year period for an annual lease payment of $25,000,...
Carson Auto is currently considering whether or not to acquire a new machine for its manufacturing...
Carson Auto is currently considering whether or not to acquire a new machine for its manufacturing operation. The machine costs $700,000 and will be depreciated using straight-line depreciation toward a zero salvage value over the next five years. During the life of the machine, no new capital expenditures or investments in working capital will be required. The new handler is expected to save Carson $250,000 per year before taxes of 30%. Carson's CFO recently estimated the rm's opportunity cost of...
Sirius has decided to acquire a new equipment at a cost of $748,000. The equipment has...
Sirius has decided to acquire a new equipment at a cost of $748,000. The equipment has an expected life of 6 years and will be depreciated using 5-year MACRS with rates of .20, .32, .192, .1152, .1152, and .0576 (note that 5-year MACRS depreciation actually takes place over 6 years). There is no actual salvage value. Travis Capital has offered to lease the equipment to Sirius for $153,000 a year for 6 years, with lease payment at the end of...
Springfield Manufacturing Co. is considering the investment of $60,000 in a new machine. The machine will...
Springfield Manufacturing Co. is considering the investment of $60,000 in a new machine. The machine will generate cash flow of $7,500 per year for each year of its 15 year life and will have a salvage value of $4,000 at the end of its life. Springfield's cost of capital is 10%. (a.) Calculate the net present value of the proposed investment. Ignore income taxes, and round all answers to the nearest $1. (b.) Calculate the present value ratio of the...
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT