Office Supply (OS) Distributors needs a new truck. The company can buy the truck

Question

Office Supply (OS) Distributors needs a new truck. The company can buy the truck for $24,000, depreciate it over four years at an annual rate of $6,000, and finance the purchase with a four-year loan at 10% interest. The truck can be sold for $5,000 in four years. Alternatively, it can lease the truck and make four annual lease payments of $6,500 (payments are made at the beginning of the year). OS is subject to a 40% corporate tax rate and is responsible for the maintenance and insurance of the truck, regardless of whether it leases or buys it.

Should OS Distributors lease or buy the truck?

A. Cash Flow from Leasing 2 Cash saved from not buying the truck (cash inflow) Less after-tax loss of depreciation deduction by not buying the truck (cash outflow) Less after-tax salvage value (cash outflow) Lesscosh outflow) Total differential cash flows 83 Discount rate (cost of capital) NPV of leasing #REF! Conclusion: Buy rather than lease?

Explanation / Answer

0 1 2 3 4 Cash Saved Not Buying the Truck 24000 Less After Tax loss of Depreciation by not Buying the Truck -2400 -2400 -2400 -2400 Less After Tax salvage Value (5000*(1-.40)) -3000 Less After tax Lease Pyament -3900 -3900 -3900 -3900 Total Differential Cash Flow 24000 -6300 -6300 -6300 -9300 Discount Rate(After Tax) 10%*(1-.60) 6% NPV of Leasing                                 -206.45 Buy Is Better as NPV is Negative

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