4. The lessee\'s lease analysis Consider the case of Shoe Building Inc. (SBI): S

Question

4. The lessee's lease analysis Consider the case of Shoe Building Inc. (SBI): Shoe Building Inc. (SBI) is considering the purchase of new manufacturing equipment that will cost $35,000 (including shipping and installation). SBI 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 System's (MACRS) depreciation rates for a three-year asset are 33.33%, 44.45%, 14.81%, and 7.41%, respectively. · The corporate tax rate for SBI is 45%. Note: Shoe Building Inc. (SBI) is allowed to take a full-year depreciation tax-saving deduction in the first year Based on the preceding information, complete the following tables: Annual loan payment will be: Annual tax savings from maintenance will be Value $10,661.47 $158 Year 1 Year 2 Year 3 Year 4 Tax savings from depreciation Net cash flow

Explanation / Answer

Loan amount 35000 Annual payment 10661.47 Interest rate(pre tax) 8.40% Maintainance 157.5 Post tax interest rate (Cost of capital) 4.62% Amortization of debt - Year Beginning balance Payments Interest @ 8.40% Principle Ending balance Interest tax savings Depreciation rates Depreciation Depreciation tax savings (Dep. X tax rate) Post tax maintainance cost (350 x 0.55) Net cash flow(Annual payments + Maintainance cost - ITS - DTS) PV factors @ 4.62% NPV 1 35000.00 10661.47 2940.00 7721.47 27278.53 1323 33.33 11665.5 5249.475 192.5 4281.49 0.95584 4092.423 2 27278.53 10661.47 2291.40 8370.07 18908.46 1031.129 44.45 15557.5 7000.875 192.5 2821.96 0.91363 2578.233 3 18908.46 10661.47 1588.31 9073.16 9835.30 714.7398 14.81 5183.5 2332.575 192.5 7806.65 0.873285 6817.431 4 9835.30 10661.47 826.17 9835.30 0.00 371.7744 7.41 2593.5 1167.075 192.5 9315.12 0.834721 7775.522 Net present value of Buy option - 21263.61 Please provide feedback…. Thanks in advance…. :-)

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