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Question: 975 supermarket wants to have a new truck to save...

Question details

975 Supermarket wants to have a new truck to save the operating costs. The company has two ways to have the new machine.

One of the two possible ways to have the new truck is to investment $30,000 to buy it. The new truck is expected to have a life of 5 years, and could be depreciated on a straight-line basis to a zero salvage value over its life.

Alternatively, the company can lease the truck for 5 years from Trustful Brother Leasing Company, with the lease payments due at the beginning of each year and totally paying 5 lease payments. The cost of secured debt of 975 Supermarket is 10%.

Assume the Trustful Brother Leasing Company is in 34% tax bracket, while 975 Supermarket is in 0% tax bracket.                                                                                   

Required:

(a)     Explain why the after-tax rate on the 975 Supermarket’s secured debt is the appropriate discount rate for leasing decision making. (3 marks)

(b)  Identify the highest lease payment Lmax that 975 Supermarket is willing to pay. (4 marks)

(c)     Identify the lowest lease payment income Lmin that Trustful Brother Leasing Company is willing to accept. (4 marks)

(d)    Briefly discuss and explain whether a lease is possible in this case. (3 marks) 

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