Question
The Weyers Mining Company of Richmond, VA has an opportunity to purchase a new conveyor belt for $1,000,000. They can pay $200,000 down and borrow
The Weyers Mining Company of Richmond, VA has an opportunity to purchase a new conveyor belt for $1,000,000. They can pay $200,000 down and borrow the remaining $800,000 from the local bank at 12 percent with annual payments for five years. Alternatively, the company can lease the conveyor belt for $260,000 per year for five years. At the end of the five years, the estimated salvage value is $100,000. If owned (purchased), the cost of yearly maintenance would be $50,000. Assume a Straight-Line depreciation, corporate tax rate of 40 percent, a cost of debt of 12 percent and a WACC of 10 percent.
Required: Given the above information,
a. determine and explain the present value of the after-tax cost of the five year lease.
b. determine and explain the yearly payments required to amortize the loan.
c. determine and explain the total net after-tax cost of the borrow-purchase alternative.
d. determine the net advantage or disadvantage (NAL or NDL) to leasing.
e. What general conclusions can you derive from your calculations/analysis?
Note: You must show your work for credit.
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