A common use of CBA is to decide on whether it is better to buy a piece of equip

Question

A common use of CBA is to decide on whether it is better to buy a piece of equipment for a project or lease it for the limited life-time of the project. Consider equipment which has a purchase price of $100,000, and fixed maintenance costs of $1000 p.a. for the 3 years of a project. Operating costs are $80 per hour, and it is expected that it will be used for 4500 hours over the 3 years of the project. At the end of the project, it is anticipated that it can be sold for $20,000. Alternatively, it can be leased for $600 per day (including all maintenance and operating costs). It is anticipated that it will be needed for 250 days per year. If the cost of finance is 10% p.a., which of the two options should be chosen?

Explanation / Answer

We need to work out the Net Present Values of both the projects Option 1 The Net Present Value, based on the given information, will be -$ 376,130.73 Option 2 The Net Present Value, based on the given information, will be -$ 136,363.64 Since Option 2 has a lower negative Net Present Value, hence the same should be chosen. In other words, the equipment should be leased.

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