What is the amount of the lease-equivalent loan

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Reference no: EM13846569

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Showing calculation detail in Excel Format (with formulas posted in Excel Cells) is a must for earning any credit for homework assignments. As an alternative to an Excel Spreadsheet, you can and should also use the Worksheets provided for some of the problems in Doc Sharing. These Worksheets will save you a lot of time.

Please Note: Do not post a narrative of the calculation detail, instead you must post the calculation formulas in the Excel cells.Problem 25-6 on PurchaseVersus Lease Based on Chapter 25

Question 1:

Craxton Engineering will either purchase or lease a new $756,000 fabricator. If purchased, the fabricator will be depreciated on a straight-line basis over 7 years.

Craxton can lease the fabricator for $130,000 per year for 7 years. Craxton's tax rate is 35%. (Assume the fabricator has no residual value at the end of the 7 years.)

a) What are the free cash flow consequences of buying the fabricator if the lease is a true tax lease?

b) What are the free cash flow consequences of leasing the fabricator if the lease is a true tax lease?

c) What are the incremental free cash flows of leasing versus buying?

Question 2:

Riverton Mining plans to purchase or lease $220,000 worth of excavation equipment. If purchased, the equipment will be depreciated on a straight-line basis over 5 years, after which it will be worthless. If leased, the annual lease payments will be $55,000 per year for 5 years.

Assume Riverton's borrowing cost is 8%, its tax rate is 35%, and the lease qualifies as a true tax lease.

a) If Riverton purchases the equipment, what is the amount of the lease-equivalent loan?

b) Is Riverton better off leasing the equipment or financing the purchase using the lease equivalent loan?

c) What is the effective after-tax lease borrowing rate? How does this compare to Riverton's actual after-tax borrowing rate?

Reference no: EM13846569

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