Lease versus purchase Northwest Lumber Company needs to expand its facilities. To do so, the firm must acquire a machine costing $60,000. The machine can be leased or purchased. The firm is in the 25% tax bracket, and its after-tax cost of debt is 12%. The terms of the lease and purchase plans are as follows: Lease The leasing arrangement requires end-of-year payments of $13,900 over five years. All maintenance costs will be paid by the lessor; insurance and other costs will be borne by the lessee. The lessee will exercise its option to purchase the asset for $20,000 at termination of the lease. Ignore any future tax benefit associated with the purchase of the equipment at the end of year 5 under the lease option. Purchase If the firm purchases the machine, its cost of $60,000 will be financed with a five-year, 14% loan requiring equal end-of-year payments of $17,477. The machine will be depreciated under MACRS using a 5-year recovery period. (See for the applicable depreciation percentages.) The firm will pay $2,000 per year for a service contract that covers all maintenance costs; insurance and other costs will be borne by the firm. The firm plans to keep the equipment and use it beyond its five-year recovery period. a. Determine the after-tax cash outflows of Northwest Lumber under each alternative. b. Find the present value of each stream, using the after-tax cost of debt. c. Which alternative-lease or purchase-would you recommend?

Lease versus purchase Northwest Lumber Company needs to expand its facilities. To do so, the firm must acquire a machine costing $60,000. The machine can be leased or purchased. The firm is in the 25% tax bracket, and its after-tax cost of debt is 12%. The terms of the lease and purchase plans are as follows: Lease The leasing arrangement requires end-of-year payments of $13,900 over five years. All maintenance costs will be paid by the lessor; insurance and other costs will be borne by the lessee. The lessee will exercise its option to purchase the asset for $20,000 at termination of the lease. Ignore any future tax benefit associated with the purchase of the equipment at the end of year 5 under the lease option. Purchase If the firm purchases the machine, its cost of $60,000 will be financed with a five-year, 14% loan requiring equal end-of-year payments of $17,477. The machine will be depreciated under MACRS using a 5-year recovery period. (See for the applicable depreciation percentages.) The firm will pay $2,000 per year for a service contract that covers all maintenance costs; insurance and other costs will be borne by the firm. The firm plans to keep the equipment and use it beyond its five-year recovery period. a. Determine the after-tax cash outflows of Northwest Lumber under each alternative. b. Find the present value of each stream, using the after-tax cost of debt. c. Which alternative-lease or purchase-would you recommend