1. Leasing Chapter 26

2. Lease terms Lease Lessee Part taking the lease Lessor The owner that is giving the lease

3. Leasing vs Buying

4. Different type of leases Operating Lease Short Term Financial Lease Long term Usually fully Amortized Tax Oriented Lease Lessor remains the owner for tax purposes Conditional Sales Agreement Lease Lessee is the owner for taxes Leveraged Lease Sales and Leaseback Agreements

5. Cash Flow from Leases – Case of Tasha Corp. What are the cash flows from leasing for Tasha?

6. Cash Flow from Leases – Case of Tasha Corp.

7. Lease or Buy? Depends on financing cost Assume that Tasha can borrow at 7.5% Should it lease or buy? Calculate the IRR of the lease and compare it with net borrowing cost What is interesting about the IRR? NPV Analysis Net Advantage to Leasing (NAL)

8. Lease Evaluation

9. What if we calculate this form the Lessors perspective?

10. Lease break even? It’s the Lease We Can Do In our Tasha example, a lease payment of $2,500 makes the lease unattractive to Tasha, and a lease payment of $2,000 makes the lease very attractive. What payment would leave Tasha indifferent between leasing and not leasing? Tasha will be indifferent when the NPV from leasing is zero. For this to happen, the present value of the cash flows from leasing instead of buying will have to be $10,000. From our previous efforts, we know that the lease payment must be somewhere between $2,500 and $2,000. To find the exact payment, we note that there are five payments and the relevant rate is 5 percent per year, so the cash flow from leasing instead of borrowing must be $2,309.75 per year. Now that we have the cash flow from leasing instead of borrowing, we have to work back- wards to find the lease payment that produces this cash flow. Suppose we let LP stand for the lease payment. Referring back to Table 26.2, we see that we must have that -LP x (1.34)- $680=- $2,309.75. With a little algebra, we see that the zero NPV lease payment is $2,469.32.

11. Practice Question Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network. The server costs $75,000. It will be completely obsolete in three years. Your options are to borrow the money at 10 percent or to lease the machine. If you lease, the payments will be $27,000 per year, payable at the end of each of the next three years. If you buy the server, you can depreciate it straight-line to zero over three years. The tax rate is 34 percent. Should you lease or buy? NPV of Leasing In the previous question, what is the NPV of the lease to the lessor? At what lease payment will the lessee and the lessor both break even?