On October 1, White Way Stores Inc. is considering leasing a building and purcha

Question

On October 1, White Way Stores Inc. is considering leasing a building and purchasing the necessary equipment to operate a retail store. Alternatively, the company could use the funds to invest in $180,000 of 7% U.S. Treasury bonds that mature in 16 years. The bonds could be purchased at face value. The following data have been assembled:

Differential Analysis

Operate Retail Store (Alternative 1) or Invest in Bonds (Alternative 2)

October 1

1

Operate Retail Store

Invest in Bonds

Differential Effect on Income

2

(Alternative 1)

(Alternative 2)

(Alternative 2)

3

4

5

6

7

B. Based on the results disclosed by the differential analysis, should the proposal be accepted?

C. If the proposal is accepted, what would be the total estimated income from operations of the store for the 16 years?

Cost of store equipment $180,000 Life of store equipment 16 years Estimated residual value of store equipment $14,400 Yearly costs to operate the store, excluding depreciation of store equipment $56,170 Yearly expected revenues—years 1–8 $86,900 Yearly expected revenues—years 9–16 $71,200

Explanation / Answer

Operate Retail Store Invest in Bonds Differential Effect on Income (Alternative 1) (Alternative 2) (Alternative 2) Revenues 1264800 201600 -1063200 Costs: Costs to operate store -898720 0 898720 Cost of equipment less residual value -165600 0 165600 Income (Loss) 200480 201600 1120 2 The proposal to operate the retail store should be rejected 3 Total estimated income from operating store = 200480

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