The CNC machine broke down and production needs both CNC machines working full time. The owner believed the way to fix this was increasing capacity- if capacity increased, sales revenues would rise by ~$50k per month. Margins on additional revenues would be at 35%. There were 3 options the owner saw to increase capacity-
Discount rate of 7% would be used for each of these options:
BUY A NEW CNC MACHINE
Cost of Equipment: $142,000
Out of pocket operating costs per month: $10,000
Salvage value after 5 years: $50,000
FINANCE A NEW CNC MACHINE: . The operating costs and salvage values would be the same as option 1, the purchasing option. The company had the necessary cash on hand to make the down payment for the lease. With both the leasing and purchasing options, the company had sufficient space to operate the new equipment.
Down payment required: $50,000
Monthly payments :$2,200 for 5 Years
After 5 Years machine could be purchased for: $1
ADD A THIRD SHIFT
Details:
No new machinery would need to be purchased, workers would be working 24 hours ( not at once, in shifts)
Would need to move several employees to work night shift and hire new employees
Adding a third shift would cost $12,000 in additional monthly out-of-pocket operating costs, but no new machinery would need to be purchased.
1. Compute the net present value and payback period of each option
2. Rounding to the nearest 1%, at what discount rate does leasing produce a higher net present value than paying cash?