The Carver Paper Company has decided to acquire a $300,000 pulp quality control
ID: 2718897 • Letter: T
Question
The Carver Paper Company has decided to acquire a $300,000 pulp quality control Machine that has a useful life of 10 years. A salvage value of $50,000 is expected at the end of year 10. The machine would be depreciable on the straight line basis with no salvage value for purposes of depreciation. There is no investment tax credit available.The company is trying to determine whether it is better to purchase or lease the machine. If purchased the acquisition would be financed with the loan the interest rate would be 10% and that would be due at the end of each year for the 10 year loan. The annual loan payment includes both principal and interest.
If a lease is chosen 10 lease payments would be required at the end of each year. The first year lease payment would be equal to $33,000 with each annual lease payment there after increased by 7% each year. The lease payments would come from cash on hand. The company will use an operating lease arrangement. The company is in the 34% tax bracket.
What is the present value for these two alternatives? Use a discount rate of 15%. Be sure to fully justify your answer. Use timelines. Provide an amortization schedule. Provide a depreciation schedule. Provide a lease schedule. Provide a buy schedule. Provide a combined buy and lease timeline.
This problem is not concerned with inflows or outflows. The Carver Paper Company has decided to acquire a $300,000 pulp quality control Machine that has a useful life of 10 years. A salvage value of $50,000 is expected at the end of year 10. The machine would be depreciable on the straight line basis with no salvage value for purposes of depreciation. There is no investment tax credit available.
The company is trying to determine whether it is better to purchase or lease the machine. If purchased the acquisition would be financed with the loan the interest rate would be 10% and that would be due at the end of each year for the 10 year loan. The annual loan payment includes both principal and interest.
If a lease is chosen 10 lease payments would be required at the end of each year. The first year lease payment would be equal to $33,000 with each annual lease payment there after increased by 7% each year. The lease payments would come from cash on hand. The company will use an operating lease arrangement. The company is in the 34% tax bracket.
What is the present value for these two alternatives? Use a discount rate of 15%. Be sure to fully justify your answer. Use timelines. Provide an amortization schedule. Provide a depreciation schedule. Provide a lease schedule. Provide a buy schedule. Provide a combined buy and lease timeline.
This problem is not concerned with inflows or outflows.
The company is trying to determine whether it is better to purchase or lease the machine. If purchased the acquisition would be financed with the loan the interest rate would be 10% and that would be due at the end of each year for the 10 year loan. The annual loan payment includes both principal and interest.
If a lease is chosen 10 lease payments would be required at the end of each year. The first year lease payment would be equal to $33,000 with each annual lease payment there after increased by 7% each year. The lease payments would come from cash on hand. The company will use an operating lease arrangement. The company is in the 34% tax bracket.
What is the present value for these two alternatives? Use a discount rate of 15%. Be sure to fully justify your answer. Use timelines. Provide an amortization schedule. Provide a depreciation schedule. Provide a lease schedule. Provide a buy schedule. Provide a combined buy and lease timeline.
This problem is not concerned with inflows or outflows.
Explanation / Answer
TAX RATE = 34% DISCOUNT RATE = 15% LOAN INTEREST RATE = 10%
LEASE PAYMENT INCREMENTAL RATE IN EACH YEAR = 7%
OPTION 1 - ACQUIRE MACHINE
PARTICULARS YEAR CASH FLOW DISCOUNT PRESENT VALUE
MACHINERY PURCHASED 0 (300000) 1 (300000)
TAX SAVINGS ON DEPRECIATION 1-10 8500 5.02 42670
TAX SAVINGS ON LOAN INTEREST 1-10 56100 5.02 281622
TOTAL 24292
OPTION 2 TAKEN ON LEASE
PARTICULARS YEAR CASH FLOW DISCOUNT PRESENT VAL
TAX SAVINGS ON LEASE PAY 1 11220 0.870 9761
2 12005 0.756 9076
3 12846 0.658 8453
4 13745 0.572 7862
5 14707 0.497 7309
6 15737 0.432 6798
7 16839 0.376 6331
8 18017 0.327 5892
9 19279 0.284 5475
10 20628 0.247 5006
TOTAL 71963
IT WILL BE BETTER TO TAKE MACHONERY ON LEASE RATHER THAN PURCHASE AS PRESENT VALUE FOR LEASE RENTAL OPTION IS MORE THAN PRESENT VALUE FOR ACQUIRING MACHINERY
WORKINGS:-
YEAR OUTSTANDING BALANCE INTEREST ON LOAN LEASE PAYMENT
1 300000 30000 33000
2 270000 27000 35310 (33000+7%)
3 240000 24000 37782
4 210000 21000 40427
5 180000 18000 43257
6 150000 15000 46285
7 120000 12000 49525
8 90000 9000 52992
9 60000 6000 56701
10 30000 3000 60670
TOTAL 165000 455949