Ophelia Co plans to acquire a new machine with a three-year lifetime. The new machine can be leased for $55,000 payable annually in advance for three payments. Alternatively, a $160,000 loan from the bank could be purchased at the cost of 8% per year. If the machine is bought, Ophelia Co will pay $8,000 per year for upkeep at the end of every operational year. At the end of its three year life, the machine would have a residual value of $40,000. Ophelia Co's Production Manager estimates that the new machine can operate for a four-year period if the operational maintenance routines are upgraded to an annual maintenance cost of $12,000. If operated for four years, the residual value of the machine would be $11,000.

Required 

 (a) Assuming that the new machine is in operation for a period of three years, consider whether Ophelia Co should use leasing or borrowing as a source of finance. (ii) Using a 10% discount rate, calculate the equivalent annual cost of the equipment, whether for 3 years or 4 years, and recommend which replacement interval. 

(b) Discuss FOUR reasons why NPV is regarded as an investment assessment technique as  IRR.

Answer rating: 100% (QA)

a To compare the options of leasing or borrowing as a source of finance for Ophelia Co we need to calculate the equivalent annual cost EAC for each option Option 1 Leasing The machine can be leased fo... View the full answer