Your company plans to outsource the printing and copying function. You have been asked to evaluate this proposal. You have gathered the following information.
a. Current printing and coping costs within the company: 335,000 per year for next 8 years
b. Your company's required return: 12%
c. An outsourcing contract has been negotiated with the following payment terms: 10,000 for the first year, 50,000 for the second year, 145,000 for the third year, and 420,000 per year for the following 5 years.
What is the present value for each option (keep function within the company vs. outsource)? Which option would your recommend from a financial perspective? What are some non-financial issues which should be considered when making this decision?
In order to make a decision, we should compare the present value of both alternatives:
- No outsourcing
In this case, costs will be $335,000 per year for the next 8 years. We will use the company's required return as the discount rate when calculating the present value of this yearly cost. Assuming that we compute this cost at the end of each year, and that we're now standing at the beginning of the year, we get that the present value is:
PV = ...
Discussion explains each step.