Answered step by step
Verified Expert Solution
Link Copied!

Question

1 Approved Answer

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

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 companys present fleet 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. If the new cars are purchased, then the costs incurred by the company will be as follows:

Purchase cost of a new fleet: 10 cars at $17,000 each $ 170,000
Annual cost of servicing, licences, and taxes for the fleet $ 3,000
Repairs for the fleet:
First year $ 1,500
Second year $ 4,000
Third year $ 6,000

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 a three-year lease contract. The lease cost would be $55,000 per year (the first payment due at the end of Year 1). As part of this lease cost, the owner would provide all servicing and repairs, license the cars, and pay all the taxes. Riteway would be required to make a $10,000 security deposit at the beginning of the lease period, which would be refunded when the cars were returned to the owner at the end of the lease contract.

Riteway Ad Agencys required rate of return is 18%.

Required:

1. What is the net present value of the cash flows associated with the purchase alternative?

2. What is the net present value of the cash flows associated with the lease alternative?

3. Which alternative should the company accept?

Step by Step Solution

There are 3 Steps involved in it

Step: 1

blur-text-image

Get Instant Access to Expert-Tailored Solutions

See step-by-step solutions with expert insights and AI powered tools for academic success

Step: 2

blur-text-image_2

Step: 3

blur-text-image_3

Ace Your Homework with AI

Get the answers you need in no time with our AI-driven, step-by-step assistance

Get Started

Recommended Textbook for

Introduction To Managerial Accounting

Authors: Peter Brewer, Ray Garrison, Eric Noreen, Suresh Kalagnanam, Ganesh Vaidyanathan

2nd Canadian Edition

0070964777, 9780070964778

More Books

Students also viewed these Accounting questions