1. KLB Corporation needs to acquire an equipment for its research lab and it is
ID: 2651104 • Letter: 1
Question
1. KLB Corporation needs to acquire an equipment for its research lab and it is looking into purchasing or leasing the equipment. It needs your advice. The following data is available for making the decision. Cost of the equipment $120,000 If leased, the lease payment will be determined in such was that it guarantees 8% return to the lessor. The term of the lease will be 5 years. The KLB will exercise the option to purchase the asset for $20,000. All maintenance cost will be borne by the lessor; insurance and other cost will be borne by the firm. If purchased, it will be financed by a 5-year loan fully amortized at 9%. The equipment will be depreciated using MACRS method. The firm will pay $3000 per year for a service contract for maintenance. Insurance and other costs will be borne by the firm. There is no resale of the equipment as the firm plans to keep it operating beyond five years. The firm is in 30% tax bracket.Explanation / Answer
Cost of Purchasing the Equipment 1,20,000
Loan 120000*9%*5= 54000
Total 174000
Calculation of depreciation
120000
Savings in tax due to dep
120000*30% (36000)
Saving in tax due to loan
54000*30% (16200)
Net Cost 121800
Calculation of Lease payment =120000*8%=9600*5
48000
Purchase after 5 years 20000
Net Cost 68000
Hence the firm should not purchase the equipment instead it should take it on lease.
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