Leasing is similar to debt financing in that the cash flows have relatively low risk because most are fixed by contract. Therefore the firms 10% cost of debt is a good start. The tax shield of interest payments must be considered. 10%(1 - T) = 10%(1 - 0.4) = 6.0%.

c. What is Lewis's present value cost of leasing the equipment? (Hint: Again, construct a time line.)

d. What is the net advantage to leasing (NAL)? Does your analysis indicate that Lewis should buy or lease the equipment? Explain.

e. Now assume that the equipment's residual value could be as low as $0 or as high as $400,000, but that $200,000 is the expected value. Since the residual value is riskier than the other cash flows in the analysis, this differential risk should be incorporated into the analysis. Describe how this could be accomplished. (No calculations are necessary, but explain how you would modify the analysis if calculations were required.) What effect would increased uncertainty about the residual value have on Lewis's lease-versus-purchase decision?

f. The lease compares the cost of owning the equipment with the cost of leasing it. Now put yourself in the lessor's shoes. In a few sentences, how should you analyze the decision to write or not write the lease?