Question

Swifty Inc. owns and operates a number of hardware stores in the New England region. Recently, the company has decided to locate another store in a rapidly growing area of Maryland. The company is trying to decide whether to purchase or lease the building and related facilities.

Purchase: The company can purchase the site, construct the building, and purchase all store fixtures. The cost would be $1,856,100. An immediate down payment of $406,000 is required, and the remaining $1,450,100 would be paid off over 5 years at $360,700 per year (including interest payments made at end of year). The property is expected to have a useful life of 12 years, and then it will be sold for $502,100. As the owner of the property, the company will have the following out-of-pocket expenses each period.

Property taxes (to be paid at the end of each year)		$40,550
Insurance (to be paid at the beginning of each year)		26,650
Other (primarily maintenance which occurs at the end of each year)		16,660
		$83,860

Lease: First National Bank has agreed to purchase the site, construct the building, and install the appropriate fixtures for Swifty Inc. if Swifty will lease the completed facility for 12 years. The annual costs for the lease would be $266,600. Swifty would have no responsibility related to the facility over the 12 years. The terms of the lease are that Swifty would be required to make 12 annual payments (the first payment to be made at the time the store opens and then each following year). In addition, a deposit of $104,400 is required when the store is opened. This deposit will be returned at the end of the 12th year, assuming no unusual damage to the building structure or fixtures.

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Compute the present value of lease vs purchase. (Currently, the cost of funds for Swifty Inc. is 9%.)

Answer 1

Solution:

Computation of Present Value of Purchasing and Leasing option - Swifty Inc.
Particulars	Period	Amount	PV Factor	Present Value
Purchasing Option:
Down payment	0	$406,000.00	1.00000	$406,000
Annual installment	1-5	$360,700.00	3.88965	$1,402,997
Property taxes	1-12	$40,550.00	7.16073	$290,368
Insurance	0-11	$26,650.00	7.80519	$208,008
Others	1-12	$16,660.00	7.16073	$119,298
Sale Value of building	12	-$502,100.00	0.35553	-$178,512
Present Value of Buying Option (A)				$2,248,159
Leasing Option:
Annual lease payment	0-11	$266,600.00	7.80519	$2,080,864
Security deposit	0	$104,400.00	1.00000	$104,400
Return of Security deposit	12	-$104,400.00	0.35553	-$37,117
Present Value of Leasing Option (B)				$2,148,146