Question 5 Tasty Pies is expanding its business and wants to open a new facility to make frozen pies, which requires a new automated pie maker. One such pie maker can be purchased for $300,000. Alternatively, it can be leased for $52,000 per year for seven years and lease rentals need to be paid annually in advance. The management informs you that the new pie maker can be fully depreciated to zero using the straight-line method over four years and that its scrap/residual value is expected to be $5,000 at the end of the lease. Tasty Pies has estimated that the appropriate after-tax opportunity cost of capital of the expansion is 19% per annum, and the net present value of the expansion is expected to $10,000. Tasty Pies pays tax at the rate of 30% and it can borrow funds at a before-tax rate of 11% per annum. All cash-flows have been quoted on a before-tax basis. Would you recommend that Tasty Pies buy or lease the pie maker? What is the incremental wealth associated with your decision? Show all of your work.
Question 5 Tasty Pies is expanding its business and wants to open a new facility to make frozen pies, which requires a new automated pie maker. One such pie maker can be purchased for $300,000. Alternatively, it can be leased for $52,000 per year for seven years and lease rentals need to be paid annually in advance. The management informs you that the new pie maker can be fully depreciated to zero using the straight-line method over four years and that its scrap/residual value is expected to be $5,000 at the end of the lease. Tasty Pies has estimated that the appropriate after-tax opportunity cost of capital of the expansion is 19% per annum, and the net present value of the expansion is expected to $10,000. Tasty Pies pays tax at the rate of 30% and it can borrow funds at a before-tax rate of 11% per annum. All cash-flows have been quoted on a before-tax basis. Would you recommend that Tasty Pies buy or lease the pie maker? What is the incremental wealth associated with your decision? Show all of your work.
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
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Transcribed Image Text:Question 5
Tasty Pies is expanding its business and wants to open a new facility to make frozen pies, which requires
a new automated pie maker. One such pie maker can be purchased for $300,000. Alternatively, it can be
leased for $52,000 per year for seven years and lease rentals need to be paid annually in advance. The
management informs you that the new pie maker can be fully depreciated to zero using the straight-line
method over four years and that its scrap/residual value is expected to be $5,000 at the end of the lease.
Tasty Pies has estimated that the appropriate after-tax opportunity cost of capital of the expansion is 19%
per annum, and the net present value of the expansion is expected to $10,000.
Tasty Pies pays tax at the rate of 30% and it can borrow funds at a before-tax rate of 11% per annum. All
cash-flows have been quoted on a before-tax basis. Would you recommend that Tasty Pies buy or lease
the pie maker? What is the incremental wealth associated with your decision? Show all of your work.
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