Rock Creek Golf Club
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Rock Creek Golf Club is a public golf course owned by a private company and managed by Lee Jeffries. The case entails a debate about the golf carts used to take players around the course instead of walking around. The carts they already owned were old and there was a need for new golf carts.
Approached by two salesman, Lee Jeffries was forced to chose to make a deal with one of them. Salesman A offered carts at $2,240 each and at the end of five years the expected salvage value was going to be $240 each.
Salesman B proposed to lease the golf carts for $500 dollars per cart per year. This was payable at the end of the year for five years and the contract could be cancelled at any time with 90 days notice. This deal was easier to get out of.
Either way $420 dollars in costs per cart per year were expected and revenue of $84000 per year was expected.
This case concerns whether to buy golf carts or lease golf carts. The financial implications are different based on the way the golf course acquires (buys or leases) use of the carts and on the terms used in acquiring them.
The questions posed in this case bring to light the answers that would tell an owner of a golf course presented with the terms for sale and the terms for lease of golf carts that he was presented with, what he should do.
We calculated what the interest payments would be each year if we paid for the golf carts each year for five years, and also the principal payment for each year. We also figured out what the interest rate would be for the lease of the carts with the terms that would presented. With this information available to us, along with the present values for each of the terms and options the owner of the golf course should be able to make an intelligent decision since the revenue and expenses for each option, that he expects to generate or incur, are the same throughout the course of the year.
1. Assume that in order to purchase the carts, RCGC would have to borrow $89600 at 8 percent interest for five years, repayable in five equal year end installments. Prepare an amortization schedule for this loan, showing how much of each year’s payment is for interest and how much is applied to pay principal.
2. Assume sles person B’s company also would be willing to sell the carts outright at $2,240 per cart. Given the proposed lease terms, and assuming the lease is outstanding for five years, what interest rate is implicit in the lease? (Ignore tax impacts to the leasing company when calculating this implicit rate.) Why is this implicit rate different from the 8% that RCGC may have to pay to borrow the funds needed to purchase the carts.
3. Should RCGC buy the carts from A, or lease them from B? (Assume that if the carts are purchased, RCGC will use accelerated depreciation for income tax purposes, based on an estimated life of 5 years and an estimated residual value of $240 per cart. The accelerated depreciation percentages for years 1-5, respectively are 35%, 26%, 15.6%, 11.7%, and 11.7%)
4. Assume arbitrarily that purchasing the carts has an NPV that is $4000 higher than the NPV of leasing them. How much would B have to reduce the proposed annual lease payment to make leasing as attractive as purchasing the cart?
1. The interest payment at 8% for each year would be $7,168 dollars per year. We arrived at this by multiplying 8% * 89,600.
The principal payment for each year would be $17,920 dollars per year.
2. The lease terms implicit for the owner of the golf course would be 12% given the proposed situation in this question.
We arrived at this conclusion by taking $2500-$2240
$2240 giving us 12%.
4. If the NPV for purchasing the carts wasa $4000 dollars higher than leasing the carts the annual lease payments would have to be such that they make the PV formula equal $4000. We would do this by plugging into the equation a value that would make the equation work.
Recommendations and Conclusions
In conclusion of this case, we learned that leasing and purchasing items for the purpose of business has different implications on the financial status of the company. This is especially true when the terms for each are different.
Another point to consider is the future impact of either buying or leasing a piece of equipment has on the future of the company. Does the company hope to depreciate the value of a purchased piece of equipment and then gain some salvage value at the end. Could any salvage value come from taking this approach? Would there be any potential buyers for the used equipment if it was yours to sell at the end of a useful life? These are all questions to consider along with the NPV and terms and payments and financial stability of the company when determining whether one should buy or lease something.
I would recommend that Mr. Jeffries take all the analysis he can consider into account before making his decision keeping in mind that the revenues and expenses he will generate will be the same regardless of whether he leases or buys the carts. I would then pick the option with highest NPV and with the payments for both principal and interest that make sense for his company.