Lease versus purchase JLB Corporation is attempting to determine whether to lease or purchase research equipment. The firm is in the 23% tax bracket, and its after-tax cost of debt is currently 9%. The terms of the lease and of the purchase are as follows: Lease Annual end-of-year lease payments of $30,000 are required over the three-year life of the lease. All maintenance costs 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 $6,500 at termination of the lease. Ignore any future tax benefit associated with the purchase of the equipment at the end of year 3 under the lease option. Purchase The equipment costs $70,000 and can be financed with a 15% loan requiring annual end-of-year payments of $30,658 for three years. JLB will depreciate the equipment under MACRS using a three-year recovery period. Rounded Depreciation Percentages by Recovery Year Using MACRS for First Four Property Classes Percentage by recovery year Superscript a Recovery year 3 years 5 years 7 years 10 years 1 33% 20% 14% 10% 2 45% 32% 25% 18% 3 15% 19% 18% 14% 4 7% 12% 12% 12% 5 12% 9% 9% 6 5% 9% 8% 7 9% 7% 8 4% 6% 9 6% 10 6% 11 4% Totals 100% 100% 100% 100% for the applicable depreciation percentages.) JLB will pay $2,600 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 three-year recovery period. a. Calculate the after-tax cash outflows associated with each alternative. (Hint: Because insurance and other costs are borne by the firm under both alternatives, those costs can be ignored here.) a. The after-tax cash outflow associated with the lease in year 1 is $23,100 (Round to the nearest dollar.) The after-tax cash outflow associated with the lease in year 2 is $23,100 (Round to the nearest dollar.) The after-tax cash outflow associated with the lease in year 3 is $29,600 (Round to the nearest dollar.) The after-tax cash outflow associated with the purchase in year 1 is $24,932. (Round to the nearest dollar.) The after-tax cash outflow associated with the purchase in year 2 is $enter your response here. (Round to the nearest dollar.) (These are the answers that I got but how do I find the calcuations for after-tax outflow associated with the purchase in year 2?) b. Calculate the present value of each stream, using the after-tax cost of debt. c. Which alternative—lease or purchase—would you recommend? Why?

Lease versus purchase JLB Corporation is attempting to determine whether to lease or purchase research equipment. The firm is in the 23% tax bracket, and its after-tax cost of debt is currently 9%. The terms of the lease and of the purchase are as follows: Lease Annual end-of-year lease payments of $30,000 are required over the three-year life of the lease. All maintenance costs 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 $6,500 at termination of the lease. Ignore any future tax benefit associated with the purchase of the equipment at the end of year 3 under the lease option. Purchase The equipment costs $70,000 and can be financed with a 15% loan requiring annual end-of-year payments of $30,658 for three years. JLB will depreciate the equipment under MACRS using a three-year recovery period. Rounded Depreciation Percentages by Recovery Year Using MACRS for First Four Property Classes Percentage by recovery year Superscript a Recovery year 3 years 5 years 7 years 10 years 1 33% 20% 14% 10% 2 45% 32% 25% 18% 3 15% 19% 18% 14% 4 7% 12% 12% 12% 5 12% 9% 9% 6 5% 9% 8% 7 9% 7% 8 4% 6% 9 6% 10 6% 11 4% Totals 100% 100% 100% 100% for the applicable depreciation percentages.) JLB will pay $2,600 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 three-year recovery period. a. Calculate the after-tax cash outflows associated with each alternative. (Hint: Because insurance and other costs are borne by the firm under both alternatives, those costs can be ignored here.) a. The after-tax cash outflow associated with the lease in year 1 is $23,100 (Round to the nearest dollar.) The after-tax cash outflow associated with the lease in year 2 is $23,100 (Round to the nearest dollar.) The after-tax cash outflow associated with the lease in year 3 is $29,600 (Round to the nearest dollar.) The after-tax cash outflow associated with the purchase in year 1 is $24,932. (Round to the nearest dollar.) The after-tax cash outflow associated with the purchase in year 2 is $enter your response here. (Round to the nearest dollar.) (These are the answers that I got but how do I find the calcuations for after-tax outflow associated with the purchase in year 2?) b. Calculate the present value of each stream, using the after-tax cost of debt. c. Which alternative—lease or purchase—would you recommend? Why?

Intermediate Financial Management (MindTap Course List)

13th Edition

ISBN:9781337395083

Author:Eugene F. Brigham, Phillip R. Daves

Publisher:Eugene F. Brigham, Phillip R. Daves

Chapter19: Lease Financing

Section: Chapter Questions

Problem 4P

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Question

Lease Annual end-of-year lease payments of $30,000 are required over the three-year life of the lease. All maintenance costs 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 $6,500 at termination of the lease. Ignore any future tax benefit associated with the purchase of the equipment at the end of year 3 under the lease option.

Purchase The equipment costs $70,000 and can be financed with a 15% loan requiring annual end-of-year payments of $30,658 for three years. JLB will depreciate the equipment under MACRS using a three-year recovery period.

Rounded Depreciation Percentages by Recovery Year Using MACRS for First Four Property Classes
	Percentage by recovery year Superscript a
Recovery year	3 years	5 years	7 years	10 years
1	33%	20%	14%	10%
2	45%	32%	25%	18%
3	15%	19%	18%	14%
4	7%	12%	12%	12%
5		12%	9%	9%
6		5%	9%	8%
7			9%	7%
8			4%	6%
9				6%
10				6%
11				4%
Totals	100%	100%	100%	100%

for the applicable depreciation percentages.) JLB will pay $2,600 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 three-year recovery period.

a. Calculate the after-tax cash outflows associated with each alternative. (Hint: Because insurance and other costs are borne by the firm under both alternatives, those costs can be ignored here.)

a. The after-tax cash outflow associated with the lease in year 1 is

$23,100 (Round to the nearest dollar.)

The after-tax cash outflow associated with the lease in year 2 is

$23,100 (Round to the nearest dollar.)

The after-tax cash outflow associated with the lease in year 3 is

$29,600 (Round to the nearest dollar.)

The after-tax cash outflow associated with the purchase in year 1 is

$24,932. (Round to the nearest dollar.)

The after-tax cash outflow associated with the purchase in year 2 is

$enter your response here. (Round to the nearest dollar.)

(These are the answers that I got but how do I find the calcuations for after-tax outflow associated with the purchase in year 2?)

b. Calculate the present value of each stream, using the after-tax cost of debt.

c. Which alternative—lease or purchase—would you recommend? Why?

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cash flow after tax for buying	1	2	3
loan payment	$30,658.00	$31,500	$10,500
maintenace cost	2600	2600	2600
less: tax shield	8,326	7,631	6,831
cash outflow after tax for buying	$22,332.00	$23,869	$3,669

Under year 1, I got $24,932 (which is the correct answer) instead of $22,332. Can you please look at it again?

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