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Assignment P16 4

JLB corporation is deciding whether to lease or purchase research equipment that costs Rs. 60,000. The lease option has annual payments of Rs. 25,000 for 3 years plus a Rs. 5,000 purchase option at the end. The purchase option involves financing the full cost at 14% interest, requiring annual payments of Rs. 25,844 for 3 years plus Rs. 1,800 annual maintenance fees. The corporation needs to calculate the after-tax cash flows of each option and determine which has a lower present value given the corporation's 40% tax rate and 8% after-tax cost of debt.

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Rameez Hassan Rana
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231 views1 page

Assignment P16 4

JLB corporation is deciding whether to lease or purchase research equipment that costs Rs. 60,000. The lease option has annual payments of Rs. 25,000 for 3 years plus a Rs. 5,000 purchase option at the end. The purchase option involves financing the full cost at 14% interest, requiring annual payments of Rs. 25,844 for 3 years plus Rs. 1,800 annual maintenance fees. The corporation needs to calculate the after-tax cash flows of each option and determine which has a lower present value given the corporation's 40% tax rate and 8% after-tax cost of debt.

Uploaded by

Rameez Hassan Rana
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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FINANCIAL MANAGEMENT-II ASSIGNMENT SUBMISSION DATE: 10TH JAN2012, Tuesday

P16-4 LEASE versus PURCHASE:


JLB corporation is attempting to determine whether to lease or purchase research equipment. The firm is in the 40 percent tax bracket, and its after-tax cost of debt is currently 8 percent. The terms of the lease and of the purchase are as follows:

LEASE: Annual end-of-year lease payments of Rs. 25,000 are required over
the 3-year life of the lease. All maintenance cost will be paid by the lessor; insurance and other costs will be borne by the lessee. The lessee will exercise its option to purchase the asset for Rs. 5,000 at termination of the lease.

PURCHASE: The research equipment, costing Rs. 60,000, can be financed


entirely with a 14 percent loan requiring annual end-of-year payments of Rs. 25,844 for 3years. The firm in this case will depreciate the equipment using a 3year recovery period. (See table 3.1 for the applicable depreciation percentages.) The firm will pay Rs. 1,800 per year for a service contract that covers all maintenance costs; insurance and other costs will be borne by the firm. The firm plans to keep the equipment and use it beyond its 3-year recovery period

a. Calculate the after-tax cash outflows associated with each alternative. b. Calculate the present value of each cash outflow stream, using the after-tax cost of debt. c. Which alternative-lease or purchase- would you recommend? Why?

5/1/2012

ASSIGNMENT SHOULB BE PRESENATBLE

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