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Question;1) Big Sky Mining Company must install \$1.5 million of new machinery in its Nevada mine. It can obtain a bank loan for 100% of the purchase price, or it can lease the machinery. Assume that the following facts apply:1. The machinery falls into the MACRS 3-year class.2. Under either the lease or the purchase, Big Sky must pay for insurance, property taxes, and maintenance.3. The firm's tax rate is 40%.4. The loan would have an interest rate of 15%.5. The lease terms call for \$400,000 payments at the end of each of the next 4 years.6. Big Sky Mining has no use for the machine beyond the expiration of the lease, and the machine has an estimated residual value of \$250,000 at the end of the 4th year.What is the NAL (Net Advantage of Leasing) of the lease?You would have cash flows for owning and leasing in years 1-4. You should also have tax on residual value in year 4 in cost of owning.NPV LEASE ANALYSIS Year = 0 1 2 3 4Cost of Owning After-tax loan payments (\$135,000)(\$135,000) (\$135,000) (\$1,635,000)Maintenance Cost Tax savings from main. Tax savings from depr. \$198,000 \$270,000 \$90,000 \$42,000Residual value \$250,000Tax on residual value Net cash flow \$0 \$63,000 \$135,000 (\$45,000) (\$1,443,000)PV ownership cost @ 9% \$ (885,580.87) Cost of Leasing Lease payment(AT) (\$240,000) (\$240,000) (\$240,000) (\$240,000)Net cash flow \$0 (\$240,000) (\$240,000) (\$240,000) (\$240,000)PV of leasing @ 6.5% \$ (777,532.77) Cost Comparison PV ownership cost @ 9% \$ (885,580.87) PV of leasing @9% \$ (777,532.77) Net Advantage to Leasing \$ 108,048.10 2) Net advantage to leasing problem (NAL).ABC Industries is negotiating a lease on a new piece of equipment which would cost \$100,000 if purchased. The equipment falls into the MACRS 3-year class, and it would be used for three years and then sold, because ABC plans to move to a new facility at that time. It is estimated that the equipment could be sold for \$30,000 after three years of use. A maintenance contract on the equipment would cost \$3,000 per year, payable at the beginning of each of the three years of usage. Conversely, ABC could lease the equipment for three years for a lease payment of \$29,000 per year, payable at the beginning of each year. The lease would also include maintenance. ABC is in the 20 percent tax bracket, and it could obtain a three-year simple interest loan to purchase the equipment at a before tax cost of 10 percent. Should ABC lease or buy?NPV LEASE ANALYSIS Year = 0 1 2 3Cost of Owning After-tax loan payments (\$8,000) (\$8,000) (\$108,000)Maintenance Cost (after tax) (\$2,400) (\$2,400) (\$2,400) \$0Depreciation \$33,000 \$45,000 \$15,000Tax savings from depr. \$6,600 \$9,000 \$3,000Residual value \$30,000Tax on residual value (\$4,600)Net cash flow (\$2,400) (\$3,800) (\$1,400) (\$79,600)PV ownership cost @ 8% \$ (70,307.84) Cost of Leasing Lease payment \$29,000 \$29,000 \$29,000 \$0Tax savings from leas(\$5,800) (\$5,800) (\$5,800) \$0Net cash flow \$23,200 \$23,200 \$23,200 \$0PV of leasing @ 8% \$ 64,571.74 Cost Comparison PV ownership cost @ 8% \$ (70,307.84) PV of leasing @ 8% \$ 64,571.74 Net Advantage to Leasing \$ (5,736.10)

Paper#49442 | Written in 18-Jul-2015

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