A small sales company is committed to supplying three sales representatives with new cars. The company has two alternatives. It can either buy the three cars and sell them after two years, or it can lease the cars for two years. The company uses a 16% discount rate. The information for each alternative is as follows:
Alternative 1: Buy
Cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $36,000
Annual service costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,000
Anticipated repairs during the first year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 700
Anticipated repairs during the second year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,500
Salvage value at the end of two years . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10,000
Alternative 2: Lease
To lease the cars, the company would simply pay $20,000 a year for the two years.
Required:
Assuming the lease is paid at the end of each year, determine the better alternative.