Aviation Ltd requires an aircraft for six years and is evaluating the following information:
What annual lease payments (made in advance)would make Aviation Ltd indifferent between buying and leasing the asset? Assume that the tax treatment associated with disposal is as risky as the lease cash flows.

Question

Aviation Ltd requires an aircraft for six years and is evaluating the following information: 
What annual lease payments (made in advance)would make Aviation Ltd indifferent between buying and leasing the asset? Assume that the tax treatment associated with disposal is as risky as the lease cash flows.

Quizplus · Accepted Answer

To calculate the present value of the lease payments and the present value of buying the asset, the following steps need to be taken:

1. Calculate the present value of the lease payments:
PV = PMT x [1 - (1 + r)^(-n)]/r
Where PMT = annual lease payment, r = discount rate, and n = number of years (in this case, 6).
PV = PMT x [1 - (1 + 0.08)^(-6)]/0.08
PV = PMT x 4.62315

2. Calculate the present value of buying the asset:
PV = FV / (1 + r)^n
Where FV = future value (in this case, the cost of the asset), r = discount rate, and n = number of years (in this case, 6).
PV = 2,250,000 / (1 + 0.08)^6
PV = 1,312,109.45

3. Compare the present value of the lease payments and the present value of buying the asset to find the annual lease payment that would make the company indifferent between buying and leasing:
PMT x 4.62315 = 1,312,109.45
PMT = 1,312,109.45 / 4.62315
PMT = 283,666.98

However, the question asks for the annual lease payment made in advance, so this amount needs to be adjusted. Assuming that the lease payments are made annually in advance, the formula for calculating the lease payment is:
PMT x (1 + r) = 283,666.98
PMT = 283,666.98 / (1 + 0.08)
PMT = $261,908.51

Therefore, the annual lease payment that would make Aviation Ltd indifferent between buying and leasing the asset, assuming that the tax treatment associated with disposal is as risky as the lease cash flows, is $261,908.51.

The best choice is option B, as it is the closest answer to the calculated result.

Aviation Ltd Requires an Aircraft for Six Years and Is