Problem: The Borstal Company has to choose between two machines that do the same job but have different lives. The two machines have the following costs:
Year Machine A Machine B
0 $40,000 $50,000
1 10,000 8,000
2 10,000 8,000
3 10,000 + replace 8,000
4 ------ 8,000 + replace
These costs are expressed in real terms.
a. Suppose you are Borstal's financial manager. If you had to buy one or the other machine and rent it to the production manager for that machine's economic life, what annual rental payment would you have to charge? Assume a 6% real discount rate and ignore taxes.
b. Which machine should Borstal buy?