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Leasing vs purchasing the equipment

Suppose Clorox can lease a new computer data processing system for $975,000 per year for five years. Alternatively, it can purchase the system for $4.25 million. Assume Clorox has a borrowing cost of 7% and a tax rate of 35%, and the system will be obsolete at the end of five years.

a. If Clorox will depreciate the computer equipment on a straight-line basis over the next five years, is it better to lease or finance the purchase of the equipment?

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Suppose Clorox can lease a new computer data processing system for $975,000 per year for five years.  Alternatively, it can purchase the system for $4.25 million.  Assume Clorox has a borrowing cost of 7% and a tax rate of 35%, and the system will be obsolete at the end of five years.

a. If Clorox will depreciate the computer equipment on a straight-line basis over the next five years, is it better to lease or finance the purchase of the equipment?

We have to compare the present value of leasing costs with the present value of purchasing costs.

The present value of purchasing cost is the cost of equipment less the present value of depreciation tax shield
Depreciation is deducted before arriving at the value of earnings before taxes ...

Solution Summary

Evaluates a leasing vs purchasing decision.

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