Can anyone or everyone please help me… A co is considering a new machine. The machine can be bought for $600,000 and will be depreciated over 4yrs using straight line method. The book value at the end of 4yrs is $60,000. The fair market value at that time will be $40,000. The machine would be financed from the bank at a lending rate of 16%. Pymts on the amortized loan once a yer for 4yrs. Maintainence costs would be $40,000. Leasing the machine would require an initial downpayment of $100,000 plus annual lease pymts of $170,000, at the end of each of the next 4yrs i.e. is 5 pymts. The lease provides for maintenance. An analysis of the project reveals its internal rate of return is 25%. The co is faced with a marginal tax rate of 25% and a marginal cost of capital of 18%. a) Determine the present value cost for each alternative financing option? b) Should the co lease or borrow from the bank and buy the machine? Explain. Please show all calculations.
This is a question in capital budgeting. Question arises whether to lease or borrow and buy. Need to calculate NPV’s of each alternative. The answer is long - sorry about that but hope this helps. No promises I did this right! - I’ve done similar calcs. in a finance course Use the ATCB (aftertax cost of borrowing) 16%X(.75) = 12% for all discounting except when calculating PV of residual value on machine (use the Marginal cost of capital, 18%, because of the uncertainty in values). Borrow and Buy: PV Cost of borrowing $600,000: n =4, i=12, pmt (AT int pmt) = 72,000 = -218,689 PV Tax shield from depreciation: pmt= 150000 X .25 = 37,500 n/4 i/12 = 113,901 PV Expenses (AT): pmt = 40,000X.75 = 30,000 n/4, i/12 = -91,206 PV Terminal Value Machine= loss (Market - Book) = -20,000x.25 = 5,000 n/4, i/18 = 2,579 (terminal loss will be a tax shield so positive value) NPV = - 193,415 Lease Alternative: Since we have beginning year pmts and tax shield is at end of year, need to calculate PV of Beg pmts and PV of Tax shield, 25% of 170,000,separately, then substract the two values to get the PV of AT lease payments. Pmt = 170,000, n=4, i=12% (BEG key ON) = 578,311 Pmt = 42,500 n=4, i=12% (OFF) = 129,087 PVATLP = 449,223 NVP = -449,223 + 193,415 (alternative - what was saved by not borrowing and buying) = - 255,808 b) Better to borrow and buy than to lease
Lively- Do your own homework. You are posting endless NPV problems in different forums. Everyone here did there own coursework…
Thanks for the heads up apcarlso - I was wondering why forum enthusiasts weren’t answering this Q.