Leaminger Co (FMC, 12/02)

The 150,000 is payable in X3 – X6. i.e. time 1 to 4 and so we use the 4 year annuity factor at 10% which is 3.170

However, the rental flows for the operating lease are payable in X2 – X5.
The means that they are paying first at time 0 – for this the discount factor is 1
They are then paying for 3 more years – i.e. time 1 to 3. So for this bit we use the 3 year annuity factor at 10% which is 2.487

Either discount the two separately (140,000 x 1; then 140,000 x 2.487) and add them together.
Or alternatively just take 140,000 x (1 + 2.487), which obviously gives the same answer.

We are not talking about 12 months periods. Time 0, time 1 etc are points in time that are one year apart.

So……if there is the first cash flow at the start of an accounting year then this is time 0.
If the next cash flow is at the end of the same accounting year, then this is one year later (for discounting purposes) and is therefore time 1.

You are welcome 🙂

There is only capital rationing for one year – in one years time more finance becomes available.

The finance lease does not require any cash until one year from now, and so is not taking any capital away from the marginal project.

The other two options require cash immediately and so do result in a loss from not being able to do all of the marginal project.

I don’t see what values you expect from me since the answer for the finance lease stays the same as for part (a) (which presumably you are happy with) and the reason is as I have written above!

You are welcome 🙂