Neighborhood Savings Bank is considering leasing $100,000 worth of computer equipment. A 4 year lease would require payments in advance of $22,000 per year. The bank does not currently pay income taxes and does not expect to have to pay income taxes in the foreseeable future. If the bank purchased the computer equipment, it would depreciate the equipment on a straight-line basis down to an estimated salvage value of $20,000 at the end of the 4th year. The bank's cost of secured debt is 14%, and its cost of capital is 20%. Calculate the net advantage to leasing.
COST OF OWNING
Equipment Cost $(100,000)
Loan Amount $100,000
Interest (year 1-4) $(14,000) $(14,000) $(14,000) $(14,000)
Repayment of loan (year 4) $(100,000)
Residual value (year 4) $(20,000)
Net cash flow (year 1-4) $(14,000) $(14,000) $(14,000) $(94,000)
PV ownership CF @14% $(88,158.39)
Cost of Ownership $88,158.39
COST OF LEASING
Lease payments (year 1-4) $(22,000) $(22,000) $(22,000) $(22,000)
Net cash flow (year 1-4) $(22,000) $(22,000) $(22,000) $(22,000)
PV of leasing CF @ 14% $(64,101.67)
Cost of Leasing $64,101.67
NAL = Cost of Ownership - Cost of Leasing = $24,056.72
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This solution illustrates how to compute the net advantage to leasing when the entity's cost of secured debt differs from its cost of capital.
Question . The last free cash flow for a company was $51 million and it is expected it to grow at a constant rate of 4 percent indefinitely. The company's weighted average cost of capital is 12 percent. The company has 25 million shares of outstanding stock, and the current price per share is $28.50.
a. Calculate the company's free cash flow for next year.
b. Calculate the value of the company's operations.
c. Calculate the value of one share of the company's stock.
d. Is the company's stock a good buy? Explain?
Question . Andiola Corporation is evaluating whether to lease or purchase equipment. Its tax rate is 30 percent. If the company purchases the equipment for $1,000,000 it will depreciate it over 5 years, using straight-line depreciation. If the company enters into a 5-year lease, the lease payment is $200,000 per year, payable at the beginning of each year. If the company purchases the equipment it will borrow from its bank at an interest rate of 11 percent.
a. Calculate the cost of purchasing the equipment.
b. Calculate the cost of leasing the equipment.
c. Calculate the net advantage to leasing. Should the company purchase or lease the equipment?