In: Finance
For the most recent financial year 2018, WOW reported operating lease expenses of $950 million, operating income (EBIT) of $2,000 million, and interest-bearing debt of $4,000 million. The future operating lease commitments of the company are as follows: $1,200 million (in 2019); $900 million (in 2020); $800 million (in 2021); $700 million (in 2022); $600 million (in 2023), and a lump sum of commitments beyond that point in time of $4,000 million. The pre-tax cost of debt is 7.4%, the cost of capital is 13%, the firm’s beta is 1.38, and the effective tax rate is 30%.
1. What is the total present value in 2018 of all operating lease
commitments?
2. What is the total debt of the company after reclassifying
operating leases as debt?
Firstly let us calculate cost of debt.
After tax cost of debt = 7.4 * (1 - 0.3) = 5.18%
Now lets calculate the present value of all the operating lease payments as on 2018.
From the calculations above, we have calculated the present value of all the lease payments as on 2018 which is equal to $7584
Now lets calculate the total debt of the company after we classify operating lease as financial lease or debt.
Total debt = existing interest bearing debt + present value of operating lease payments
total debt = 4000 + 7584
Total Debt = $11,584