{[ promptMessage ]}

Bookmark it

{[ promptMessage ]}

CH26 - CHAPTER 26 Leasing Answers to Practice Questions 1...

Info icon This preview shows pages 1–4. Sign up to view the full content.

View Full Document Right Arrow Icon
CHAPTER 26 Leasing Answers to Practice Questions 1. “100 percent financing” is not an advantage unique to the lessee because precisely the same cash flows can be arranged by borrowing as an alternate source of financing for the acquisition of an asset. 2. a. For comparison purposes, the solution to Quiz Question 5 is shown below: t = 0 t = 1 t = 2 t = 3 t = 4 t = 5 t = 6 Initial Cost -3000.00 Depreciation 600.00 960.00 576.00 345.60 345.60 172.80 Depreciation tax shield 210.00 336.00 201.60 120.96 120.96 60.48 After-tax admin. costs -260.00 -260.00 -260.00 -260.00 -260.00 -260.00 Total -3260.00 -50.00 76.00 -58.40 -139.40 -139.40 60.48 PV(at 9%) = -$3,439.80 Break-even rent 1082.30 1082.30 1082.30 1082.30 1082.30 1082.30 Tax -378.81 -378.81 -378.81 -378.81 -378.81 -378.81 Break-even rent after tax 703.49 703.49 703.49 703.49 703.49 703.49 PV(at 9%) = -$3,439.82 Cash Flow -2556.51 653.50 779.50 645.10 564.46 564.46 60.48 In the above table, we solve for the break-even lease payments by first solving for the after-tax payment that provides a present value, discounted at 9%, equal to the present value of the costs, keeping in mind that the annuity begins immediately. Then solve for the break-even rent as follows: Break-even rent = $703.49/(1 – 0.35) = $1,082.30 If the expected rate of inflation is 5 percent per year, then administrative costs increase by 5 percent per year. We further assume that the lease payments grow at the rate of inflation (i.e., the payments are indexed to inflation). However, the depreciation tax shield amounts do not change because depreciation is based on the initial cost of the desk. The appropriate nominal discount rate is now: (1.05 × 1.09) – 1 = 0.1445 = 14.45% These changes yield the following, indicating that the initial lease payment has increased from $1,082 to about $1,113: 240
Image of page 1

Info icon This preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
t = 0 t = 1 t = 2 t = 3 t = 4 t = 5 t = 6 Initial Cost -3000.00 Depreciation 600.00 960.00 576.00 345.60 345.60 172.80 Depreciation. tax shield 210.00 336.00 201.60 120.96 120.96 60.48 After-tax admin. costs -260.00 -273.00 -286.65 -300.98 -316.03 -331.83 Total -3260.00 -63.00 49.35 -99.38 -195.07 -210.87 60.48 PV(at 14.45%) = -$3,537.83 Break-even rent 1113.13 1168.79 1227.23 1288.59 1353.02 1420.67 Tax -389.60 -409.08 -429.53 -451.01 -473.56 -497.23 Break-even rent after tax 723.53 759.71 797.70 837.58 879.46 923.43 PV(at 14.45%) = -$3,537.83 Cash Flow -2536.47 696.71 847.05 738.20 684.39 712.56 60.48 Here, we solve for the break-even lease payments by first solving for the after-tax payment that provides a present value, discounted at 9%, equal to the present value of the costs, keeping in mind that the annuity begins immediately. We use the 9% discount rate in order to find the real value of the payments (i.e., $723.53). Then each of the subsequent payments reflects the 5% inflation rate. Solve for the break-even rent as follows: Break-even rent = $723.53/(1 – 0.35) = $1,113.13 b. With a reduction in real lease rates of 10 percent each year, the nominal lease amount will decrease by 5.5 percent each year. That is, the nominal lease rate is multiplied by a factor of (1.05 × 0.9) = 0.945 each year. Thus, we have: t = 0 t = 1 t = 2 t = 3 t = 4 t = 5 t = 6 Initial Cost -3000.00 Depreciation 600.00 960.00 576.00 345.60 345.60 172.80 Depreciation. tax shield 210.00 336.00 201.60 120.96 120.96 60.48 After-tax admin. costs -260.00 -273.00 -286.65 -300.98 -316.03 -331.83 Total -3260.00 -63.00 49.35 -99.38 -195.07 -210.87 60.48 PV(at 14.45%) = -3537.83 Break-even rent 1388.85 1312.46 1240.28 1172.06 1107.60 1046.68 Tax -486.10 -459.36 -434.10 -410.22 -387.66 -366.34 Break-even rent after tax 902.75 853.10 806.18 761.84 719.94 680.34 PV(at 14.45%) = -3537.84 Cash Flow -2357.25 790.10 855.53 662.46 524.87 469.47 60.48 Here, when we solve for the first after-tax payment, use a discount rate of: [(0.9/1.09) – 1 = 0.2111 = 21.11% 241
Image of page 2
3. If the cost of new limos decreases by 5 percent per year, then the lease payments also decrease by 5 percent per year. In terms of Table 26.1, the only change is in the break-even rent.
Image of page 3

Info icon This preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Image of page 4
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern