Question

You work for a nuclear research laboratory that is contemplating leasing a diagnostic scanner (leasing is a common practice with expensive, high-tech equipment). The scanner costs $7,400,000, Because of radiation contamination, it will actually be completely valueless in four years. You can lease it for $2,140,000 per year for four years. Assume that the tax rate is 21 percent. You can borrow at 7 percent before taxes. Assume that the scanner will be depreciated as three-year property under the MACRS depreciation.

*Specifically I need help finding the PV & knowing which numbers are used for the PV*

Answer 1

Net advantage of leasing is the NPV of the lease relative to the purchase.

This is calculated by calculating the present value of the advantage each year.

Advantage each year = Cash flow with leasing - cash flow with buying.

Buying :

Cash outflow in year 0 = cost of equipment.

Cash inflow in each year = annual depreciation * tax rate (The depreciation is a tax-deductible expense, and hence provides a depreciation tax shield. This is treated as a cash inflow).

Leasing :

Net cash outflow with leasing = lease payment * (1 - tax rate) = $2,140,000 * (1 - 21%) = $1,690,600

NPV of leasing vs buying

Advantage each year = Cash flow with leasing - cash flow with buying.

Present value factor (discount factor) each year = 1 / (1 + discount rate)year.

Discount rate = after-tax cost of borrowing = interest rate on borrowing * (1 - tax rate) = 7% * (1 - 21%) = 5.53%.

Net Advantage of leasing each year = advantage amount * discount factor.

NPV of the lease relative to the purchase = $78,552

NPV of the lease relative to the purchase = $78,552

NPV of the lease relative to the purchase = $78,552

NPV of the lease relative to the purchase = $78,552