Question

1. Archi ltd. is a manufacturing company involved in manufacturing plastic products. It has received orders from a foreign company to manufacture plastic bags and disposable cups and which the company considers it as a positive sign for growth in the future. The company’s existing machinery will not be sufficient enough to produce for the present demand and to meet the foreign order. Two options are available (1) to lease a machinery or (2) buy a new machinery using bank loan.

If the company takes the machinery for lease it has pay a lease rent of RO. 130,000. All the expenses for the maintenance of the machinery will be borne by the Archi ltd. If they decide to buy the machinery they have to borrow the required money from the bank at the rate of 10% p.a to purchase the machinery. The cost of the machinery is 555,000. The money borrowed will be paid in equal instalments in 5 years inclusive of principal and interest at the end of each year. The principal amount to be paid each year would be OMR 110,000. The machinery can be depreciated on a straight line basis, (1) with a residual value of OMR 15,000 and (2) with no residual value. The Present value is taken at 10%

1. If the company decides to take the machinery on lease. Advise the company whether it is better to pay the lease rent a) In the beginning of each year or b) at the end of the year with suitable calculations.
2. With suitable calculations (take into consideration if the machinery has residual value and if it does not have residual value), advise them whether they should buy the machinery or leasing the machinery? Justify your answer.

Answer 1