Nationwide Decorators Inc. (Nationwide) spent $50,000 in market research and has determined the home shopping market cannot be ignored. Customers are best served if interior decorators meeting their customers in their home surroundings and therefore must “bring the store home”. Nationwide wants to launch their home-based business in Kitchener-Waterloo, a community perfect in both size and demographics to test their latest project. The biggest capital expenditure will be the acquisition of 2 custom vans equipped to house the latest in decorating samples.
Nationwide knows you have completed several homework “lease versus buy” problems at school and although you are very tired of them, they have approached you about completing just one more problem. They would like your advice as to whether or not Nationwide should lease or buy the vans. You have gathered the following information:
Each new van will cost $55,000. The company expects the vans can be used for 5 years at which time they can be sold for $5,000 each. The bank will extend financing for the purchase at 10% interest. The applicable CCA rate is 15%
Alternatively, each van can be leased for 5 years from the Can-Am Leasing Company for the sum of $11,800 per year payable in advance. The leasing companies cost of capital is 11%.
Whether or not the vans are purchased or leased, Can-AM offers a separate maintenance contract that will cover both vans for a grand total of $2,000 per year, payable at the start of the year.
You have been advised the Nationwide’s tax rate is 30% and the cost of capital is 3% greater than the bank rate (i.e 13%)
Required: Calculate the Net Present Value of the leasing and advise the President whether the new vans should be lease or purchased.