The lessee's lease analysis

Consider the case of Hack Wellington Co. (HWC):

Hack Wellington Co. (HWC) is considering the purchase of new manufacturing equipment that will cost $35,000 (including shipping and installation). HWC can take out a four-year, $35,000 loan to pay for the equipment at an interest rate of 8.40%. The loan and purchase agreements will also contain the following provisions:

	The annual maintenance expense for the equipment is expected to be $350.
	The equipment has a four-year depreciable life. The Modified Accelerated Cost Recovery Systems (MACRS) depreciation rates for a three-year asset are 33.33%, 44.45%, 14.81%, and 7.41%, respectively.
	The corporate tax rate for HWC is 45%.

(Note: Hack Wellington Co. (HWC) is allowed to take a full-year depreciation tax-saving deduction in the first year.)

Note: (Note: Do not round intermediate calculations.)

Based on the preceding information, complete the following tables:

	Value
Annual loan payment will be:
Annual tax savings from maintenance will be:

	Year 1	Year 2	Year 3	Year 4
Tax savings from depreciation
Net cash flow

Thus, the net present value (NPV) cost of owning the asset will be:

-$20,760

-$21,260

-$48,485

$25,725

Hack Wellington Co. (HWC) has been offered an operating lease on the same equipment. The four-year lease requires end-of-year payments of $1,400, and the firm will have the option to buy the asset in four years for $7,700. The firm will want to use the equipment longer than four years, so it plans to exercise this option. All maintenance will be provided by the lessor. What is the NPV cost of leasing the asset?

-$2,111

-$9,181

-$11,476

$32,889

Should HWC lease or buy the equipment?