Question

The S Company is considering the acquisition of a new processor used in its operation. The processor has an installed cost of $55,000 and is expected to have a useful life of 5 years. If purchased, the firm would borrow the entire $55,000 at an interest rate of 10%. The processor would be depreciated over a 5 year ACRS life to a zero book value, but it is estimated that it could be sold for $6,000 after 5 years. A capital budgeting analysis indicates that purchase of the processor has a positive NPV. Alternatively, S Company can lease the processor for the 5 year period for an annual lease payment of $13,000. If the processor is leased, annual operating expenses of $2,900 will be paid by the lessor. If the equipment is purchased, the firm will incur this expense. S Company's cost of capital is 12% and its marginal tax rate is 35%.

1. If S Company borrows to purchase the processor, what is the annual loan payment?

$11,897

$12,913

$14,509

$16,395

2. If S Company borrows to purchase the processor, the interest paid on the loan in year 2 is:

$3,817

$4,599

$4,139

$4,415

3. If S Company borrows to purchase the processor, total tax deductible expenses for year 3 are:

$18,058

$18,520

$18,867

$19,329

4. If S Company borrows to purchase the processor, the net cost of owning for year 3 is:

$11,089

$10,520

$10,204

$11,594

5. The present value of the costs of owning is:

$46,949

$44,779

$47,383

$46,515

6. The present value of the cost of leasing the processor is:

$37,019

$37,594

$37,926

$37,328

Answer 1