ch20 - CHAPTER20 HybridFinancing...

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    20-1 CHAPTER 20 Hybrid Financing:   Preferred Stock, Leasing, Warrants, and  Convertibles Preferred stock Leasing Warrants Convertibles
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    20-2 Leasing Often referred to as “off balance sheet”  financing if a lease is not “capitalized.” Leasing is a substitute for debt financing and,  thus, uses up a firm’s debt capacity. Capital leases are different from operating  leases: Capital leases do not provide for maintenance  service. Capital leases are not cancelable. Capital leases are fully amortized.
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    20-3 Analysis: Lease vs. Borrow- and-buy Data: New computer costs $1,200,000. 3-year MACRS class life; 4-year economic life. Tax rate = 40%. k d  = 10%. Maintenance of $25,000/year, payable at  beginning of each year. Residual value in Year 4 of $125,000. 4-year lease includes maintenance. Lease payment is $340,000/year, payable at  beginning of each year.
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    20-4 Depreciation schedule Depreciable basis = $1,200,000 MACRS  Depreciation End-of-Year Year   Rate     Expense Book Value    1   0.33  $   396,000   $804,000    2   0.45         540,000       264,000    3   0.15         180,000                 84,000    4   0.07          84,000                           0      1.00    $1,200,000
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    20-5 In a lease analysis, at what discount  rate should cash flows be discounted? Since cash flows in a lease analysis are  evaluated on an after-tax basis, we should  use the after-tax cost of borrowing.   Previously, we were told the cost of debt, k d was 10%.  Therefore, we should discount  cash flows at 6%. A-T kd = 10%(1 – T) = 10%(1 – 0.4) =  6% .
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    20-6 0 1 2 3 4 Cost of Owning Analysis Cost of asset (1,200.0) Dep. tax savings 1 158.4 216.0 72.0 33.6 Maint. (AT) 2 (15.0) (15.0) (15.0) (15.0) Res. value (AT) 3 ______ _____ _____ _____ 75.0 Net cash flow (1,215.0) 143.4 201.0 57.0 108.6 PV cost of owning (@ 6%) = -$766.948. Analysis in thousands:
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    20-7 Notes on Cost of Owning  Analysis 1. Depreciation is a tax deductible  expense, so it produces a tax savings of  T(Depreciation).  Year 1 = 0.4($396) =  $158.4. 2. Each maintenance payment of $25 is  deductible so the after-tax cost of the  lease is (1 – T)($25) = $15. 3. The ending book value is $0 so the full  $125 salvage (residual) value is taxed,  (1 - T)($125) = $75.0.
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  20-8 Cost of Leasing Analysis Each lease payment of $340 is deductible,  so the after-tax cost of the lease is  (1-T)($340) = -$204. PV cost of leasing (@6%) = -$749.294.
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This note was uploaded on 09/05/2011 for the course FIN 4405 taught by Professor Cowan during the Spring '11 term at Fairleigh Dickinson.

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ch20 - CHAPTER20 HybridFinancing...

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