Problem 4 The Jacob Company needs to acquire a new lift truck for transporting i

Question

Problem 4 The Jacob Company needs to acquire a new lift truck for transporting its final product to the warehouse. One alternative is to purchase the truck for $45,000 which will be financed by the bank at an interest rate of 12%. The loan must be re- paid in four equal installments, payable at the end of each year. Under the borrow to-purchase arrangement, Jacob would have to maintain the truck at a cost of $1,200, payable at year-end. Alternatively, Jacob could lease the truck under a four- year contract for a lease payment of $12,000 per year. Each annual lease payment must be made at the beginning of each year. The truck would be maintained by the lessor. The truck has a CCA rate of 30%, and it has a salvage value of $10,000, which is the expected market value after four years, at which time Jacob plans to replace the truck irrespective of whether it leases or buys. Jacob has a marginal tax rate of 40% and a MARR of 15% (a) What is Jacob's cost of leasing, in present worth? (b) What is Jacob's cost of owning, in present worth? (c) Should the truck be leased or purchased? This is an operating lease, so the truck would be maintained by the lessor. For the lease option, use the cash flow diagram approach. For the owning option, you may use the posted Excel spread sheet.

Explanation / Answer

Soln : (a) For the leasing out process, rentals are paid at the start of the year .

So, at the end of year 4 no payment will be made

Please refer the table of cash flow here:

Leasing cost at present = $23639.22

(b) For buying option, please refer the table of cash flows again :

We have used here the salvage value after taxes.

Net value obtained for cost of owning at present = $20124

Truck should be purchased as per the calculations.

Cost of leasing Year 0 1 2 3 4 Cash outflow 12000 12000 12000 12000 Taxes 4800 4800 4800 4800 Net outflow 7200 7200 7200 7200 rate 1.15 1.15 1.15 1.15 PV 7200 6260.87 5444.234405 4734.117 Total Net worth 23639.22

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