Maple Leafs Sports & Entertainment is considering purchasing one of the followin
ID: 2407708 • Letter: M
Question
Maple Leafs Sports & Entertainment is considering purchasing one of the following two pieces of lighting equipment.
Equipment A has a purchase price of $10 million and will cost, $240,000 pre-tax, to operate on an annual basis. This equipment will have to be replaced every 5 years and has a salvage value of $1 million.
Equipment B on the other hand, has an initial cost of $14 million and costs $210,000 pre-tax, annually to operate. This equipment has a useful life of 7 years with a salvage value of $1.2 million.
Both equipment sets are in an asset class with a CCA Rate of 30% and are otherwise identical. The income tax rate is 40 percent and the appropriate discount rate is 10%.
Which equipment should the company purchase and why?
Explanation / Answer
Workings
Yearly maintenance is net of tax (i.eMaintenance cost*(1-tax rate))
Savings in tax expense due to Yearly depreciation
Net cash flow (Savings in Tax expense - Yearly maintenance net of tax)
Conclusion
Equipment 1 Equipment 2 Cash flow in $ PV Factor @10% PV Cash flow in $ PV Factor @10% PV Year 0 - 10,000,000 1 -10,000,000 - 14,000,000 1.00000 -14,000,000 Yr1 1,056,000 0.909091 960,000 1,554,000 0.90909 1,412,727 Yr2 1,056,000 0.826446 872,727 1,554,000 0.82645 1,284,298 Yr3 1,056,000 0.751315 793,388 1,554,000 0.75131 1,167,543 Yr4 1,056,000 0.683013 721,262 1,554,000 0.68301 1,061,403 Yr5 1,056,000 0.620921 655,693 1,554,000 0.62092 964,912 Yr5 1,000,000 0.620921 620,921 Yr6 1,554,000 0.56447 877,192 Yr7 1,554,000 0.51316 797,448 Yr7 1,200,000 0.51316 615,790 Total - 5,376,008 - 5,818,687