Question

You need a particular piece of equipment for your production process. An​ equipment-leasing company has offered to lease the equipment to you for $10,000 per year if you sign a guaranteed 5​-year lease​ (the lease is paid at the end of each​ year). The company would also maintain the equipment for you as part of the lease.​ Alternatively, you could buy and maintain the equipment yourself. The cash flows from doing so are listed below​ (the equipment has an economic life of 5 years). If your discount rate is 7.3%​, what should you​ do?

Year 0	Year 1	Year 2	Year 3	Year 4	Year 5
−$39,900	−$2,100	−$2,100	−$2,100	−$2,100	−$2,100

The net present value of the leasing alternative is? (Round to the nearest​ dollar.)

Answer 1

Calculation of net present value of lease alternative is shown below
Year	Lease payment	Discount factor @ 7.3% (1/(1.0713^n)	Present value
1	-$10,000	0.93197	-$9,319.66
2	-$10,000	0.86856	-$8,685.61
3	-$10,000	0.80947	-$8,094.70
4	-$10,000	0.75440	-$7,543.99
5	-$10,000	0.70307	-$7,030.75
Net present value			-$40,675
Calculation of net present value of maitaining equipment by self
Year	Cash flow	Discount factor @ 7.3% (1/(1.0713^n)	Present value
0	-$39,900	1.00000	-$39,900.00
1	-$2,100	0.93197	-$1,957.13
2	-$2,100	0.86856	-$1,823.98
3	-$2,100	0.80947	-$1,699.89
4	-$2,100	0.75440	-$1,584.24
5	-$2,100	0.70307	-$1,476.46
Net present value			-$48,442
Company should opt for lease alternative as the cash outflow in terms of present value is lower than by purchasing and maintaining equipment.