You run a financial firm where you replace your computers every 3
years. You have 500 employees, the old computers have fully
depreciated and can be sold for 500 each. You have to decide (1)
between new pc's for 3000 each, witha three year depreciation period
and a salvage value of 500 at the end of three years, or (2) a leasing
company has agreed to take away your old pc's (you receive no $ for
them) and lease you comparable pc's for 750k each year for three
years, at the end of the lease the pc's have no salvage value. your
cost of capital is 9% and your tax rate is 40%. Calculate the NPV of
each alternative and indicate which you would choose. please show some
work

Hi!!


- LEASE -

Initial Investment = $0

Annual lease payment = ($750,000)

Tax shields on lease = $750,000 * 0.40 = $300,000

Cash Flows = CFi = ($750,000) + $300,000 = ($450,000) (for years i=1 to 3).

                CF1           CF2            CF3        
NPV = CF0  +  ---------  +  ----------  +  ----------  =
               (1.09)^1       (1.09)^2	    (1.09)^3

    = ($1,139,082.60)




- BUY -

Initial investment = 500 * $3,000 = $1,500,000

Money received for the old PC's = 500 * $500 = $250,000

CF0 = ($1,250,000)

Depreciation = 500 * ($3,000 - $500) / 3 = $416,666,67

Tax shields on depreciation = $416,666,67 * 0.40 = $166,666,67

Cash Flows 
CFi = $166,666,67 (for years i=1 to 2)
CF3 = $166,666,67 + $250,000 = $416,666.67


                CF1           CF2            CF3        
NPV = CF0  +  ---------  +  ----------  +  ----------  =
               (1.09)^1       (1.09)^2	    (1.09)^3

    = ($635,071.68)


The NPV of buying the PCs is higher (less negative), this means that
the cost of buying is less than the cost of leasing, then you must
choose the Buying option.


I hope this helps you. Feel free to request for a clarification if you
find something unclear.


Best regards,
livioflores-ga