A machine that costs $280,000 would be depreciated using the straightline method by a leasing firm over a period of 3 years.Both the book value and the market value would be zero at the end of the 3 years.Both the lessor and the lessee have a tax rate of 21 percent.What is the NPV of the lease relative to the purchase to the lessor if the applicable pretax cost of borrowing is 7 percent and the lease payments are set at $102,100 annually for 3 years?

Question

Quizplus · Accepted Answer

The NPV of the lease to the lessor can be calculated by considering the lease payments received, the tax shield on depreciation, and the cost of the machine, taking into account the tax rate and the discount rate (cost of borrowing). The lease payments are an inflow, while the cost of the machine is an outflow. The depreciation tax shield adds value because it reduces taxable income, thus reducing taxes paid. Given the information, the correct NPV calculation would involve discounting the inflows (lease payments and tax savings from depreciation) and the initial outflow (cost of the machine) at the lessor's cost of borrowing (7%). The option that closely matches the result of such a calculation, considering the specifics provided, is B)−$9,658.92, indicating a negative NPV for the lessor, suggesting that leasing the machine under these terms is less favorable than selling it outright.

A Machine That Costs $280,000 Would Be Depreciated Using the Straightline