Question
Joshua Ltd must choose between leasing or buying an indispensable machine. The machine costs $80,000 and will be depreciated straight-line to zero over 10 years.
Joshua Ltd must choose between leasing or buying an indispensable machine. The machine costs $80,000 and will be depreciated straight-line to zero over 10 years. Joshua Ltds tax rate is 25 percent, and the firm can borrow at 6 percent.
Tree Leasing Company has offered to lease the machine to Joshua Ltd for payments of $10,000 at the start of each year. (Assume that tax is paid at the same time as expenditures are made.) But Tree Leasing Ltd also requires a security deposit of $1,000 to be paid at the start of the lease, refundable at the end. Tree Leasing Ltds tax rate is 40% and it can borrow at 4 percent.
Required:
(a) What is the Net Advantage to Leasing for Joshua Ltd?
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(b) What is the maximum lease payment Joshua Ltd would be prepared to make each year if Joshua were to lease? [Note that the values of inputs needed in Part (b) are substantially unchanged from what you have already calculated for use in Part (a)]
(2 marks)
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(c) What is the minimum yearly pretax lease payment the Tree Leasing Company would accept? (3 marks)
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(d) Will the lease contract be signed on the basis of your findings in parts (b) and (c)? Provide a brief reason for your decision
(1 mark)
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