Question
Suppose Procter and Gamble (P&G) is considering purchasing $14 million in new manufacturing equipment. If it purchases the equipment, it will depreciate it on a
Suppose Procter and Gamble (P&G) is considering purchasing
$14
million in new manufacturing equipment. If it purchases the equipment, it will depreciate it on a straight-line basis over the five years, after which the equipment will be worthless. It will also be responsible for maintenance expenses of
$2.00
million per year. Alternatively, it can lease the equipment for
$3.1
million per year for the five years, in which case the lessor will provide necessary maintenance. Assume P&G?s tax rate is
40%
and its borrowing cost is
6.0%.
a. What is the NPV associated with leasing the equipment versus financing it with the lease equivalent loan?
b. What is the break-even lease
ratethat
is, what lease amount could P&G pay each year and be indifferent between leasing and financing a purchase?
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