LeasingChapter 26

Lease terms

bull Leasebull Lessee

bull Part taking the leasebull Lessor

bull The owner that is giving the lease

Leasing vs Buying

Different type of leases

bull Operating Leasebull Short Term

bull Financial Leasebull Long termbull Usually fully Amortized

bull Tax Oriented Leasebull Lessor remains the owner for tax purposes

bull Conditional Sales Agreement Leasebull Lessee is the owner for taxes

bull Leveraged Leasebull Sales and Leaseback Agreements

Cash Flow from Leases ndash Case of Tasha Corp

What are the cash flows from leasing for Tasha

Cash Flow from Leases ndash Case of Tasha Corp

Lease or Buy

bull Depends on financing costbull Assume that Tasha can borrow at 75bull Should it lease or buy

bull Calculate the IRR of the lease and compare it with net borrowing costbull What is interesting about the IRRbull NPV Analysisbull Net Advantage to Leasing (NAL)

Lease Evaluation

What if we calculate this form the Lessors perspective

Lease break even

Itrsquos the Lease We Can Do bull In our Tasha example a lease payment of $2500 makes the lease unattractive to Tasha and a

lease payment of $2000 makes the lease very attractive What payment would leave Tasha indifferent between leasing and not leasing

bull 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 1113089$10000 From our previous efforts we know that the lease payment must be somewhere between $2500 and $2000 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 1113089$230975 per year

bull 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 262 we see that we must have that -1113089LP x1113089 (1 1113089 34)- 1113089 $680=- 1113089 1113089$230975 With a little algebra we see that the zero NPV lease payment is $246932

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question

Lease terms

bull Leasebull Lessee

bull Part taking the leasebull Lessor

bull The owner that is giving the lease

Leasing vs Buying

Different type of leases

bull Operating Leasebull Short Term

bull Financial Leasebull Long termbull Usually fully Amortized

bull Tax Oriented Leasebull Lessor remains the owner for tax purposes

bull Conditional Sales Agreement Leasebull Lessee is the owner for taxes

bull Leveraged Leasebull Sales and Leaseback Agreements

Cash Flow from Leases ndash Case of Tasha Corp

What are the cash flows from leasing for Tasha

Cash Flow from Leases ndash Case of Tasha Corp

Lease or Buy

bull Depends on financing costbull Assume that Tasha can borrow at 75bull Should it lease or buy

bull Calculate the IRR of the lease and compare it with net borrowing costbull What is interesting about the IRRbull NPV Analysisbull Net Advantage to Leasing (NAL)

Lease Evaluation

What if we calculate this form the Lessors perspective

Lease break even

Itrsquos the Lease We Can Do bull In our Tasha example a lease payment of $2500 makes the lease unattractive to Tasha and a

lease payment of $2000 makes the lease very attractive What payment would leave Tasha indifferent between leasing and not leasing

bull 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 1113089$10000 From our previous efforts we know that the lease payment must be somewhere between $2500 and $2000 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 1113089$230975 per year

bull 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 262 we see that we must have that -1113089LP x1113089 (1 1113089 34)- 1113089 $680=- 1113089 1113089$230975 With a little algebra we see that the zero NPV lease payment is $246932

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question

Leasing vs Buying

Different type of leases

bull Operating Leasebull Short Term

bull Financial Leasebull Long termbull Usually fully Amortized

bull Tax Oriented Leasebull Lessor remains the owner for tax purposes

bull Conditional Sales Agreement Leasebull Lessee is the owner for taxes

bull Leveraged Leasebull Sales and Leaseback Agreements

Cash Flow from Leases ndash Case of Tasha Corp

What are the cash flows from leasing for Tasha

Cash Flow from Leases ndash Case of Tasha Corp

Lease or Buy

bull Depends on financing costbull Assume that Tasha can borrow at 75bull Should it lease or buy

bull Calculate the IRR of the lease and compare it with net borrowing costbull What is interesting about the IRRbull NPV Analysisbull Net Advantage to Leasing (NAL)

Lease Evaluation

What if we calculate this form the Lessors perspective

Lease break even

Itrsquos the Lease We Can Do bull In our Tasha example a lease payment of $2500 makes the lease unattractive to Tasha and a

lease payment of $2000 makes the lease very attractive What payment would leave Tasha indifferent between leasing and not leasing

bull 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 1113089$10000 From our previous efforts we know that the lease payment must be somewhere between $2500 and $2000 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 1113089$230975 per year

bull 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 262 we see that we must have that -1113089LP x1113089 (1 1113089 34)- 1113089 $680=- 1113089 1113089$230975 With a little algebra we see that the zero NPV lease payment is $246932

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question

Different type of leases

bull Operating Leasebull Short Term

bull Financial Leasebull Long termbull Usually fully Amortized

bull Tax Oriented Leasebull Lessor remains the owner for tax purposes

bull Conditional Sales Agreement Leasebull Lessee is the owner for taxes

bull Leveraged Leasebull Sales and Leaseback Agreements

Cash Flow from Leases ndash Case of Tasha Corp

What are the cash flows from leasing for Tasha

Cash Flow from Leases ndash Case of Tasha Corp

Lease or Buy

bull Depends on financing costbull Assume that Tasha can borrow at 75bull Should it lease or buy

bull Calculate the IRR of the lease and compare it with net borrowing costbull What is interesting about the IRRbull NPV Analysisbull Net Advantage to Leasing (NAL)

Lease Evaluation

What if we calculate this form the Lessors perspective

Lease break even

Itrsquos the Lease We Can Do bull In our Tasha example a lease payment of $2500 makes the lease unattractive to Tasha and a

lease payment of $2000 makes the lease very attractive What payment would leave Tasha indifferent between leasing and not leasing

bull 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 1113089$10000 From our previous efforts we know that the lease payment must be somewhere between $2500 and $2000 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 1113089$230975 per year

bull 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 262 we see that we must have that -1113089LP x1113089 (1 1113089 34)- 1113089 $680=- 1113089 1113089$230975 With a little algebra we see that the zero NPV lease payment is $246932

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question

Cash Flow from Leases ndash Case of Tasha Corp

What are the cash flows from leasing for Tasha

Cash Flow from Leases ndash Case of Tasha Corp

Lease or Buy

bull Depends on financing costbull Assume that Tasha can borrow at 75bull Should it lease or buy

bull Calculate the IRR of the lease and compare it with net borrowing costbull What is interesting about the IRRbull NPV Analysisbull Net Advantage to Leasing (NAL)

Lease Evaluation

What if we calculate this form the Lessors perspective

Lease break even

Itrsquos the Lease We Can Do bull In our Tasha example a lease payment of $2500 makes the lease unattractive to Tasha and a

lease payment of $2000 makes the lease very attractive What payment would leave Tasha indifferent between leasing and not leasing

bull 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 1113089$10000 From our previous efforts we know that the lease payment must be somewhere between $2500 and $2000 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 1113089$230975 per year

bull 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 262 we see that we must have that -1113089LP x1113089 (1 1113089 34)- 1113089 $680=- 1113089 1113089$230975 With a little algebra we see that the zero NPV lease payment is $246932

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question

Cash Flow from Leases ndash Case of Tasha Corp

Lease or Buy

bull Depends on financing costbull Assume that Tasha can borrow at 75bull Should it lease or buy

bull Calculate the IRR of the lease and compare it with net borrowing costbull What is interesting about the IRRbull NPV Analysisbull Net Advantage to Leasing (NAL)

Lease Evaluation

What if we calculate this form the Lessors perspective

Lease break even

Itrsquos the Lease We Can Do bull In our Tasha example a lease payment of $2500 makes the lease unattractive to Tasha and a

lease payment of $2000 makes the lease very attractive What payment would leave Tasha indifferent between leasing and not leasing

bull 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 1113089$10000 From our previous efforts we know that the lease payment must be somewhere between $2500 and $2000 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 1113089$230975 per year

bull 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 262 we see that we must have that -1113089LP x1113089 (1 1113089 34)- 1113089 $680=- 1113089 1113089$230975 With a little algebra we see that the zero NPV lease payment is $246932

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question

Lease or Buy

bull Depends on financing costbull Assume that Tasha can borrow at 75bull Should it lease or buy

bull Calculate the IRR of the lease and compare it with net borrowing costbull What is interesting about the IRRbull NPV Analysisbull Net Advantage to Leasing (NAL)

Lease Evaluation

What if we calculate this form the Lessors perspective

Lease break even

Itrsquos the Lease We Can Do bull In our Tasha example a lease payment of $2500 makes the lease unattractive to Tasha and a

lease payment of $2000 makes the lease very attractive What payment would leave Tasha indifferent between leasing and not leasing

bull 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 1113089$10000 From our previous efforts we know that the lease payment must be somewhere between $2500 and $2000 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 1113089$230975 per year

bull 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 262 we see that we must have that -1113089LP x1113089 (1 1113089 34)- 1113089 $680=- 1113089 1113089$230975 With a little algebra we see that the zero NPV lease payment is $246932

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question

Lease Evaluation

What if we calculate this form the Lessors perspective

Lease break even

Itrsquos the Lease We Can Do bull In our Tasha example a lease payment of $2500 makes the lease unattractive to Tasha and a

lease payment of $2000 makes the lease very attractive What payment would leave Tasha indifferent between leasing and not leasing

bull 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 1113089$10000 From our previous efforts we know that the lease payment must be somewhere between $2500 and $2000 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 1113089$230975 per year

bull 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 262 we see that we must have that -1113089LP x1113089 (1 1113089 34)- 1113089 $680=- 1113089 1113089$230975 With a little algebra we see that the zero NPV lease payment is $246932

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question

What if we calculate this form the Lessors perspective

Lease break even

Itrsquos the Lease We Can Do bull In our Tasha example a lease payment of $2500 makes the lease unattractive to Tasha and a

lease payment of $2000 makes the lease very attractive What payment would leave Tasha indifferent between leasing and not leasing

bull 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 1113089$10000 From our previous efforts we know that the lease payment must be somewhere between $2500 and $2000 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 1113089$230975 per year

bull 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 262 we see that we must have that -1113089LP x1113089 (1 1113089 34)- 1113089 $680=- 1113089 1113089$230975 With a little algebra we see that the zero NPV lease payment is $246932

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question

Lease break even

Itrsquos the Lease We Can Do bull In our Tasha example a lease payment of $2500 makes the lease unattractive to Tasha and a

lease payment of $2000 makes the lease very attractive What payment would leave Tasha indifferent between leasing and not leasing

bull 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 1113089$10000 From our previous efforts we know that the lease payment must be somewhere between $2500 and $2000 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 1113089$230975 per year

bull 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 262 we see that we must have that -1113089LP x1113089 (1 1113089 34)- 1113089 $680=- 1113089 1113089$230975 With a little algebra we see that the zero NPV lease payment is $246932

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question

Practice Question

bull Lease or Buy Your company wants to purchase a new network file server for its wide-area computer network The server costs $75000 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 $27000 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 bull 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

• Leasing
• Lease terms
• Leasing vs Buying
• Different type of leases
• Cash Flow from Leases ndash Case of Tasha Corp
• Cash Flow from Leases ndash Case of Tasha Corp (2)
• Lease or Buy
• Lease Evaluation
• What if we calculate this form the Lessors perspective
• Lease break even
• Practice Question