You are the manager of a sales division.You are considering leasing a fleet of cars for your staff.You can buy the cars for $300,000 or you can lease them for eight years at $60,000 per year.The company faces a tax rate of 40% and a CCA rate of 10% on vehicles.If the company buys the cars and finances the purchase with a loan, they will pay 7% after-tax in interest.Assume that after the term of the lease is over, the salvage value of the cars will be zero.What is the NPV of the lease?
A)$9,340
B)$16,754
C)$29,521
D)34,195

Question

Quizplus · Accepted Answer

If we buy the cars, the after-tax interest cost of the loan would be:

$300,000 × 7% × (1 - 40%) = $12,600 per year

The CCA tax shield would be:

$300,000 × 10% × 40% = $12,000 per year

So the after-tax cost of buying the cars would be:

$12,600 - $12,000 = $600 per year

The after-tax cost of leasing the cars would be:

$60,000 - ($60,000 × 40%) = $36,000 per year

So leasing would cost:

$36,000 × 8 = $288,000

Now we can calculate the NPV of leasing:

NPV = -$288,000 + ($36,000 ÷ 0.07) × (1 - 1 ÷ 1.07^8) - $300,000 × 10% × (1 - 40%) × (1 ÷ 1.07^8) = -$16,754

Since the NPV of leasing is negative, it is not the best choice. Therefore, buying the cars is the best choice.

You Are the Manager of a Sales Division