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Damage Ltd will be replacing some machines in the next year and needs to decide whether
to purchase or lease the machines. The company uses 10% as its cost of capital and has the
following information:
? Purchase price of $600,000.
? Annual running costs of $45,000 for the next five years, paid annually in arrears.
? A residual value of $220,000 at the end of the five years.
The machine could be leased for five years based upon total annual costs of $135,000 paid
annually in advance.
(a) What is the NPV of purchasing the machine?
(b) What is the NPV of leasing the machine?hi sir how do i solve this and what is arrears? i specially dont understand the b part but need assistance in part a too
For part (a) the cash flows will be as follows:
0. (600,000
1-5. (45,000) per year
5 220,000You then discount the flows using the annuity factors or the present value factor as appropriate.
In arrears means it is paid at the end of each year.For part (b) the cash flows will be as follows
0 (135,000)
1 to 4 (135,000) per yearAgain, you then discount using the annuity factors as explained in my free lectures.
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