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FOUR (25 Marks) Ford Limited needs to acquire equipment costing R2 000 000 to expand their facilities in order to be more competitive. The machine
FOUR (25 Marks) Ford Limited needs to acquire equipment costing R2 000 000 to expand their facilities in order to be more competitive. The machine can be purchased or leased. The after-tax cost of the debt is 7 % and the company is in the 28% tax bracket. The terms of the lease and purchase plans are as follows: Lease The leasing agreement would require annual end-of-year payments of R385 600 over the five years. Service and maintenance costs are R90 000 per annum. According to the lease agreement, these costs are shared equally amongst the lessee and the lessor and is not included in the annual lease payment of R385 600. In addition, the lessee will exercise its option to purchase the equipment for R128 000 at the termination of the lease. Purchase The cost could be financed with a five-year, 15 % loan, requiring equal annual payments of R650 000. The company will pay R18 000 per year for a service contract that covers All costs. The straight-line method of depreciation is used. They plan to sell the machine for spares after the five years for R50 000. The interest payments for the respective five years are R97 500 R82 500 R67 800 R59 090 and R35 500. Required: 4.1 Determine the after-tax cash outflows and the net present value of the cash outflows under each alternative. ( 2 2 Marks) 4.2 Which alternative would you recommend and why? ( 3 Marks)
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