Question

The Riteway Ad Agency provides cars for its sales staff. In the past, the company has always purchased its cars from a dealer and then sold the cars after three years of use. The company's present feet of cars is three years old and will be sold very shortly. To provide a replacement fleet, the company is considering two alternatives: Purchase alternative: The company can purchase the cars, as in the past, and sell the cars after three years of use. Ten cars will be needed, which can be purchased at a discounted price of $21,000 each. If this alternative is accepted, the following costs will be incurred on the fleet whole Annual cost of servicing, taxes, and licensing Repairs, first year Repairs, second year Repairs, third year 5 3,700 1.ue 40 At the end of three years, the fleet could be sold for one-half of the original purchase price. Lease alternative: The company can lease the cars under three year lease contract. The lease COST would be $50, per year (the fist payment due at the end of Year 1). As part of this lease cost, the Owen would provide all servicing and repairs, license the cars, and pay all the taxes. Riteway would be required to make a 513.5 security deposit at the beginning of the ease De Lod. which wou be refunded when the cars were returned to the owner at the end of the lease contract Riteway Ad Agency's required rate of return is 5% Click here to view and exhibit to determine the appropriate discount for using tables Required: What the net present value of the cash flows associated with the purchase alternat ve! what the net presentatue of the cashows associated with the lease aterative? 3. Which alternative shoud the company accept

Answer 1

1.
Purchase Alternative	Now	1	2	3
Purchase of Car	-210000
Annual Servicing Cost		-3700	-3700	-3700
repair		-1600	-4100	-6100
Resale value of car				105000
Total Cash Flows	-210000	-5300	-7800	95200
Discount Factor @15%	1	0.86957	0.75614	0.65752
Present Value	-210000	-4608.721	-5897.9	62595.9
Net Present Value	-157911
2.
Lease Alternative	Now	1	2	3
Security Deposit	-13500
Annual Lease Payment		-56000	-56000	-56000
Refund of Deposit		0	0	15000
Total Cash Flows	-13500	-56000	-56000	-41000
Discount Factor @15%	1	0.86957	0.75614	0.65752
Present Value	-13500	-48695.92	-42344	-26958
Net Present Value	-131498.08

3.

Since Net Present Value is lower in lease alternative, the car should be taken on lease