A new robotic welder can be leased for 5 years with annual payments of $300,000 with the first payment occurring at lease inception.The system would cost $1,050,000 to buy and would be depreciated straightline to a zero salvage value.The actual salvage value is zero.The firm can borrow at 8 percent and has a tax rate of 23 percent.What discount rate should be used for valuing the lease?

Question

Quizplus · Accepted Answer

To calculate the discount rate, we need to find the present value of the cash outflows (lease payments) and compare it to the cost of buying the system outright. Using a financial calculator or spreadsheet, we can calculate a discount rate of approximately 6.16%.

To buy the system, the present value of the cost is:

PV = $1,050,000

To lease the system, the present value of the lease payments is:

PV = $300,000*(1-(1/(1+0.0616)^5))/0.0616 = $1,268,362

Therefore, the company should choose to lease the system, as the present value of the lease payments is lower than the cost of buying the system outright. The discount rate used in this calculation is approximately 6.16%.

A New Robotic Welder Can Be Leased for 5 Years