Max, Inc.can sell a large piece of machinery for $90,000.The machinery originally cost $240,000 and has accumulated depreciation of $130,000.Max will have to pay a 5% sales commission on the sale.Rather than sell, Max is considering leasing the machine.It can be leased for 4 years for $24,000 per year.Max has estimated future operating expenses to be $3,000 per year, and Max will be responsible for those expenses.Which of the following options most accurately describes the analysis and decision for Max?
A) Lease - because differential revenues are $6,000 if Max leases rather than sells
B) Lease - because Max will lose $20,000 if it sells the equipment for less than its $110,000 book value
C) Sell - because differential income of selling rather than leasing is $6,000
D) Sell - because differential income is $1,500 if Max sells rather than leases

Question

Quizplus · Accepted Answer

To find the best choice between selling and leasing, we need to compare the differential income of each option.

Differential income of selling = Sales price - Book value - Sales commission - Operating expenses
= $90,000 - ($240,000 - $130,000) - ($90,000 x 0.05) - ($3,000 x 4)
= $90,000 - $110,500
= -$20,500 (Negative value indicates a loss)

Differential income of leasing = Lease revenue - Operating expenses
= ($24,000 x 4) - ($3,000 x 4)
= $84,000 - $12,000
= $72,000

As we can see, the differential income of selling is a loss of $20,500 while the differential income of leasing is a gain of $72,000. Therefore, the best choice is to lease the machine.

Max, IncCan Sell a Large Piece of Machinery for $90,000