Rock-on company produces musi-cal instruments, including guitars and drum sets t
ID: 2722143 • Letter: R
Question
Rock-on company produces musi-cal instruments, including guitars and drum sets tail stores in North Carolina. it air rently has 30 owners who have already invested a total of $4 million in the firm. It used the equity to invest in its operations. Now Rock-On wants to purchase an additional manufacturing plant that will cost about $4 million. It has about $1 million in cash retained from recent so it will need to borrow renaming $3 million to pur-t his plant. If Rock-On obtains it will have to make loan of about $300,000 a year. Impact of Firm's Condition on Its Loan Rate. Why would the interest rate charged on a loan to Rock-On Company be dependent on its financial condition? Equity Financing Tradeoff. Instead of borrowing to obtain the funds to purchase an additional manufacturing plant. Rock-On Company is consider- B ing using equity binding to fl- 1 nance this investment. It could I obtain additional equity (rom a I venture capital firm. What is the potential advantage of obtaining equity lather than borrowing funds? What is the disadvantage ol using equity financing? Leasing Decision. If Rock-On Company wants the flexibility lo expand a specific production facility it is using, would it prefer to purchase (own) or lease the facility?Explanation / Answer
Answer 4:
Leasing is a general contract between the owner and user of the asset over a specified period of time. The asset is purchased initially by the lessor (leasing company) and thereafter leased to the user (lesser company) which pay a specified rent at periodical intervals. Thus, leasing is an alternative to the purchase of an asset out of own or borrowed funds. Moreover, lease finance can be arranged much faster as compared to loans from financial institutions.
From the lessee’s point of view, leasing has the attraction of elimination immediate cash outflow, and the lease rentals can be deducted for computing the total income under the tax. As against this, buying has the advantages of depreciation allowance and interest on borrowed capital being tax-deductible. Thus, an evaluation of the two alternative is to be made in order to take a decision.
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