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Q: Finance - Present Value Lease Problem ( Answered ,   1 Comment )
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 Subject: Finance - Present Value Lease Problem Category: Reference, Education and News > Homework Help Asked by: jaemarie-ga List Price: \$6.00 Posted: 19 Sep 2005 23:22 PDT Expires: 19 Oct 2005 23:22 PDT Question ID: 570003
 ```Leases R Us, Inc (LRU)has been contracted by Robotics of Beverly Hills(RBH)to provide lease financing for a machine that would assist in automating a large part of their current assembly line. Annual lease payments will start at the beginning of the each year. The purchase price of this machine is \$200,000, and it will be leased by RBH for a period of 5 years. LRU will utilize straight line depreciation of \$40,000 per year with a zero book salvage value. However, salvage value is estimated to actually be \$35,000 at the end of 5 years. LRU is required to earn a 14%, after tax rate of return on the lease. LRU uses a marginal tax rate of 40%. Calculate the annual lease payments. (Remember, these payments are to be considered at the beginning of each year - annuity due)```
 ```Jaemarie -- You can calculate the lease payments in 3 steps ? Step 1: Calculate the Net Present Value (NPV) of the amount to be amortized. Step 2: Calculate the annual after-tax required lease income. By taking your answer from Step 1 as an NPV then use the number of years and the required rate of return to get the required payment. Step 3: Calculate the lease payment by taking the answer from Step B and adjusting for taxes. You?ll divide it by (1 - the tax rate). In Step 1 it?s very important to note that the salvage value of the machine (\$35,000) will get discounted for net present value (NPV) ? but not for tax effects. Why no taxes? Because the leasing company is already showing a -\$40,000 income ? and the salvage simply reduces the loss. In other words, a company that?s losing money doesn?t have to worry about paying taxes on any gains that are less than its losses. The calculations in the three steps are all in this Excel spreadsheet, which your browser should be able to read, even if you don?t have Excel itself. By netting up the year 5 salvage and depreciation, we avoid the potential error mentioned in the previous paragraph. If you do have Excel, you can download and change the spreadsheet. Even without Excel, it's viewable in your browser: NPV Cash Flow http://www.mooneyevents.com/npvlease1.xls If you have any questions about these calculations, please let us know via a Clarification Request before rating this Google Answer. Best regards, Omnivorous-GA``` Request for Answer Clarification by jaemarie-ga on 20 Sep 2005 05:56 PDT ```Please may I have some more guidance on this, I am not good at using excel or am I good at NPV calculations``` Clarification of Answer by omnivorous-ga on 20 Sep 2005 08:23 PDT ```Jaemarie -- Setting up NPV factors is probably the most-difficult part (independent of the treatment of salvage value in cash flow). Each year, you'll be discounting the cash coming in by your rate-of-return. So, for each year it's: Year 0 (today): 1 Year 1: 1/1.14^1 = 0.877192982 Year 2: 1/(1.14)^2 = 0.769467528 Year 3: 1/(1.14)^3 = 0.674971516 Year 4: 1/(1.14)^4 = 0.592080277 Year 5: 1/(1.14)^5= 0.519368664 I hope that this helps. Best regards, Omnivorous-GA```
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