Question 2: (35 marks)

Black Oil Company is trying to decide whether to lease or buy a new computer-assisted drilling system for its extraction business. Management has already determined that acquisition of the system has a positive NPV. The system costs $9.4 million and qualifies for a 25% CCA rate. The equipment will have a $975,000 salvage value in five years. Black Oils tax rate is 36%, and the firm can borrow at 9%. Cape Town Company has offered to lease the drilling equipment to Black Oil for payments of $2.15 million per year. Cape Towns policy is to require its lessees to make payments at the start of the year.

What is the NAL for Black Oil Company? What is the maximum lease payment that would be acceptable to the company?

Question 3: (35 marks)

Black Oil Company is trying to decide whether to lease or buy a new computer-assisted drilling system for its extraction business. Management has already determined that acquisition of the system has a positive NPV. The system costs $9.4 million and qualifies for a 25% CCA rate. The equipment will have a $975,000 salvage value in five years. Black Oils tax rate is 36%, and the firm can borrow at 9%. Cape Town Company has offered to lease the drilling equipment to Black Oil for payments of $2.15 million per year. Cape Towns policy is to require its lessees to make payments at the start of the year.

Suppose it is estimated that the equipment will have no savage value at the end of the lease. What is the maximum lease payment acceptable to Black Oil now?