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QUESTION - Marv Limited has determined that a new specialised delivery truck needs to be purchased. The truck will generate a positive net present value of R480 000, calculated using the company's WACC of 20%. The truck can be leased from the manufacturer.
LEASE OPTION - The lease agreement requires 5 annual payments of R520 000, with the first payment due on the delivery of the truck. Insurance costs of R12 000 are borne by the lessee. The lessor will bear the cost of R10 000 pa for maintenance. Marv Limited will purchase the truck for R50 000 at the end of the lease agreement.
PURCHASE OPTION - The truck can also be purchased at a cost of R2 million, inclusive of a 4 year maintenance contract with the manufacturer. The R2 million will be paid in cash. The vehicle can be depreciated straight-line over the four years and will have a zero-market value at the end of its useful life.
Additional information: Assume a current corporate tax rate of 30%. Cost of debt is 12%.
Required -
1. Determine the after-tax cash flows and the net present value of the cash outflows under each alternative.
2. Briefly indicate which alternative should be recommended.
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