Valuing Financial Leases Look

Valuing Financial Leases Look again at the National Waferonics lease in Problem 11. Suppose that National Waferonics is highly levered and is unable to deduct further interest payments for tax.

a. Does this make a lease more or less attractive?

b. Recalculate the NPV of the lease by constructing an equivalent loan. (Hint: Start with the final year. The final repayment of the loan with interest should be set equal to the cash flow on the lease.)

Problem 11

Valuing financial leases* Suppose that National Waferonics has before it a proposal for a four-year financial lease of a Waferooney machine. The firm constructs a table like Table 25.2. The bottom line of its table shows the lease cash flows:

These flows reflect the cost of the machine, depreciation tax shields, and the after-tax lease payments. Ignore salvage value. Assume the firm could borrow at 10% and faces a 21% marginal tax rate.

a. What is the value of the equivalent loan?

b. What is the value of the lease?

c. Suppose the machine’s NPV under normal financing is –$5,000. Should National Waferonics invest? Should it sign the lease?

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Valuing financial leases Look

Valuing financial leases Look again at Problem 7. Suppose a blue-chip company requests a six-year financial lease for a $3,000 desk. The company has just issued five-year notes at an interest rate of 6% per year. What is the break-even rate in this case? Assume administrative costs drop to $200 per year. Explain why your answers to Problem 7 and this question differ.

Problem 7

Operating leases* Acme has branched out to rentals of office furniture to start-up companies. Consider a $3,000 desk. Desks last for six years and can be depreciated immediately. What is the break-even operating lease rate for a new desk? Assume that lease rates for old and new desks are the same and that Acme’s pretax administrative costs are $400 per desk in each of years 1 to 6. The cost of capital is 9% and the tax rate is 21%. Lease payments are made in advance, that is, at the start of each year. The inflation rate is zero.

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