Question
Please don't post form any answers that are currently on chegg, thank you. The equipment costs $1,000,000 and, if it were purchased, Lewis could obtain
Please don't post form any answers that are currently on chegg, thank you.
The equipment costs $1,000,000 and, if it were purchased, Lewis could obtain a term loan for the full purchase price at a 10% interest rate. Although the equipment has a 6-year useful life, it is classified as a special-purpose computer and therefore falls into the MACRS 3-year class. If the system were purchased, a 4-year maintenance contract could be obtained at a cost of $20,000 per year, payable at the beginning of each year. The equipment would be sold after 4 years, and the best estimate of its residual value is $200,000. However, because real-time display system technology is changing rapidly, the actual residual value is uncertain.
As an alternative to the borrow-and-buy plan, the equipment manufacturer informed Lewis that Consolidated Leasing would be willing to write a 4-year guideline lease on the equipment, including maintenance, for payments of $260,000 at the beginning of each year. Lewiss marginal federal-plus-state tax rate is 25%. You have been asked to analyze the lease-versus-purchase decision and, in the process, to answer the following questions.
- What is the present value of owning the equipment? (Hint: Set up a timeline that shows the net cash flows over the period t = 0 to t = 4, and then find the PV of these net cash flows, or the PV of owning.)
- What is the discount rate for the cash flows of owning?
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What is Lewiss present value of leasing the equipment? (Hint: Again, construct a timeline.)
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