The Camden Company has just leased the following piece of equipment: Market value of $200,000. Useful life of 5 years with no salvage value. Lease term is 4 years. Annual lease payment is $30,000 and the lease rate is 11%. The company’s overall borrowing rate is 9.5%. The firm can purchase the equipment at the end of the lease period for $45,000. What amount should be recorded on lessee’s balance sheet? A) $93,073. B) $127,435. C) $122,716. D) $96,134. Your answer: B was incorrect. The correct answer was D) $96,134. Reason: Use the lower of the company’s lease rate or the borrowing rate of 9.5% for I/Y. I/Y = 9.5, N = 4, FV = 0, PMT = $30,000, compute PV = $96,134 just a quick question about the FV = 0, I thought that because the company could purchase the asset at $45,000 at the end of year 4, then that might be the FV to use, instead of $0?
The FV in this case must be $45,000
I agree, the FV should be 45,000, not 0. There is no salvage value in 5 years, not in 4 (the duration of the lease agreement).
So Qbank is wrong in this instance? Thanks guys
There would be no Future value. Why should a company lease an equipment (for however long a term), use the equipment after paying money to use it, and then at the end of the term buy the equipment? the 45K in the problem above is a distractor, and should not be used. the problem as solved by qbank is correct imho.
Salvage value is the estimated value of an asset at the end of its useful life. because there is no salvage value for this asset (which has a useful life of 5 years) and the lease term is for 4 years, the company in my opinion wouldn’t exercise its right to purchase the equipment for 45,000 (one years use) when it has been leasing it for 30,000 year. So I agree with CP that the purchase price 45K is a distractor and future value is zero.