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% 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

To calculate the NPV of the lease, we need to first calculate the present value of lease payments and the tax savings due to the CCA.

Present value of lease payments:
PV = (Annual lease payment) * (PVIFA(rate, n))
PV = (60000) * (PVIFA(7%, 8))
PV = $367,671.98

Tax savings due to CCA:
CCA = (Cost of the cars) * (CCA rate)
CCA = (300000) * (10%)
CCA = $30,000

Tax savings = (CCA) * (Tax rate)
Tax savings = (30000) * (40%)
Tax savings = $12,000

Total present value = PV - Tax savings
Total present value = $367,671.98 - $12,000
Total present value = $355,671.98

To compare this with buying the cars, we need to calculate the present value of loan payments and the tax savings due to the interest expense.

Present value of loan payments:
PV = (Loan amount) * (PVIFA(rate, n))
PV = (300000) * (PVIFA(7%, 8))
PV = $201,722.72

Tax savings due to interest expense:
Interest expense = (Loan amount) * (Interest rate)
Interest expense = (300000) * (7%)
Interest expense = $21,000

Tax savings = (Interest expense) * (Tax rate)
Tax savings = (21000) * (40%)
Tax savings = $8,400

Total present value = PV - Tax savings
Total present value = $201,722.72 - $8,400
Total present value = $193,322.72

The NPV of buying the cars is:
NPV = (Total present value) - (Cost of the cars)
NPV = $193,322.72 - $300,000
NPV = -$106,677.28

The NPV of leasing the cars is:
NPV = (Total present value) - (Cost of the lease payments)
NPV = $355,671.98 - ($60,000 * 8)
NPV = $295,671.98

Therefore, leasing the cars has a higher NPV and is the better choice.

The options are:
A) None
B) B
C) None
D) None

You Are the Manager of a Sales Division