ch 20 - Hybrid Financing Preferred Stock Leasing Warrants...

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Unformatted text preview: Hybrid Financing: Preferred Stock, Leasing, Warrants, and Convertibles Chapter 20 Preferred Stock Leasing Warrants Convertibles 20-1 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. 20-2 Lease vs. Borrow-and-Buy Data: New computer costs $1,200,000. 3-year MACRS class life; 4-year economic life. Tax rate = 40%. r 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. 20-3 Depreciation Schedule Depreciable basis = $1,200,000 Year MACRS Rate Depreciation Expense End-of-Year 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 20-4 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, r d , was 10%. Therefore, we should discount cash flows at 6%. A-T r d = 10%(1 – T) = 10%(1 – 0.4) = 6% . 20-5 Cost of Owning Analysis 1 2 3 4 Cost of asset-1,200.0 Deprec. tax savings 158.4 216.0 72.0 33.6 Maintenance (A-T)-15.0-15.0-15.0-15.0 Residual value (A-T) 75.0 Net cash flow-1,215.0 143.4 201.0 57.0 108.6 PV of the cost of owning (@ 6%) = -$766.948 20-6 Notes on Cost of Owning Analysis Depreciation is a tax deductible expense, so it produces a tax savings of T(Depreciation). Year 1 = 0.4($396) = $158.4. Each maintenance payment of $25 is deductible so the after-tax cost of the mortgage payment is (1 – T)($25) = $15. The ending book value is $0 so the full $125 salvage (residual) value is taxed, (1 – T)($125) = $75.0....
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This note was uploaded on 03/25/2012 for the course FINA 2201 taught by Professor J during the Spring '10 term at Northeastern.

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ch 20 - Hybrid Financing Preferred Stock Leasing Warrants...

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