Brubaker Inc., a manufacturer of high-sugar, low-sodium, low-cholesterol TV dinn

Question

Brubaker Inc., a manufacturer of high-sugar, low-sodium, low-cholesterol TV dinners, would like to increase its market share in the Sunbelt. In order to do so, Brubaker has decided to locate a new factory in the Panama City area. Brubaker will either buy or lease a site depending upon which is more advantageous. The site location committee has narrowed down the available sites to the following three buildings.

Building A: Purchase for a cash price of $610,000, useful life 25 years.

Building B: Lease for 25 years with annual lease payments of $70,000 being made at the beginning of the year.

Building C: Purchase for $650,000 cash. This building is larger than needed; however the excess spce can be sublet for 25 years at a net annual rental of $6,000. Rental payments will be received at the end of each year. Brubaker Inc. has no aversion to being a landlord.

In which building would you recommend that Brubaker Inc. locate, assuming a 12% cost of funds?

Explanation / Answer

Building A has cash price of $610,000

Building B
Cost to the company = Present value of annual lease payments of $70,000
=70000+ 70000/(1.12) + 70000/(1.12)^2 + 70000/(1.12)^3 ...+ 70000/(1.12)^24
= $614,902.11


Building C
Cost to the company = $650,000- Present value of annual rental of $6,000
= $650,000 - 6,000/(1.12) + 6,000/(1.12)^2 + 6,000/(1.12)^3 ...+ 6,000/(1.12)^25
= $602,941.17

Brubaker Inc. locate should locate to Building C as the cost of the site is least there

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