LEASE OR PURCHASE:

Shanghai West Company needs to expand its facilities. To doso, the firm must acquire a machine costing $80,000. The machine can be leased or purchased. The firm is in the40% tax bracket, and its after-tax cost of debt is 9%. The terms of the lease and purchase plans are in the questions

below.

Lease: the leasing arrangement requires end-of-year payments of $19,800 over 5 years. The lessee willexercise its option to purchase the asset for $24,000 at the termination of the lease. Determine the after-taxcash outflows and the present value of these after-tax cash outflows for Northwest Lumber if it leases theasset.

LEASE WORKSHEET HERE:

End of Year After-Tax CashOutflows PVIF PV of Outflows

1. 1.
2. 2
3. 3

4

5

Total PV

Purchase: If the firm purchases the machine, its cost of $80,000 will be financed with a 5-year, 14% loanrequiring end-of-year payments of $23,302. The machine will be depreciated under MACRS using a 5-yearrecovery period (Depreciation table is below). The firm will pay $2,000 per year for a service contract thatcovers all maintenance costs; insurance and other costs will be borne by the firm. The firm plans to keep theequipment and use it beyond its 5-year recovery period. Determine the after-tax cash outflows and the presentvalue of these after-tax cash outflows if it purchases the asset.

PURCHASE WORKSHEET HERE!

Year LoanPaymentMaintenance Depreciation Interest at___%Total DeductionsTaxShieldAfter Tax cashOutflows

Year	Loan Payment	Maintenance	Depreciation	Interest at ____%	Total Deductions	Tax Shield	After Tax Cash Outflows
						PV

MACRS Schedule for a 5-year asset

Recovery Year

Percentage Allowed

1	20
2	32
3	19
4	12
5	12
6	5