Finance Management – In the Purchase Decision, what are the cash flow impacts of the Bank Loan (Please focus on the after tax cash flows.)
Finance Management – In the Purchase Decision, what are the cash flow impacts of the Bank Loan (Please focus on the after tax cash flows.)
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Finance Management
Note: Solve any 4 Case Studies:
Case 1:
Lewis Securities Inc. has decided to acquire a new market data and quotation system for its Richmond home office. The system receives current market prices and other information from several on-line data services, then either displays the information on a screen or stores it for later retrieval by the firm’s brokers. The system also permits customers to call up current quotes on terminals in the lobby. The equipment costs $1,000,000, and, if it were purchased, Lewis could obtain a term loan for the full purchase price at a 10 percent interest rate. Although the equipment has a six-year useful life, it is classified as a special-purpose computer, so it falls into the MACRS 3-year class. If the system were purchased, a 4-year maintenance contract could be obtained at a cost of $20,000 per year, payable at the beginning of each year. The equipment would be sold after 4 years, and the best estimate of its residual value at that time is $200,000. However, since real-time display system technology is changing rapidly, the actual residual value is uncertain. As an alternative to the borrow-and-buy plan, the equipment manufacturer informed Lewis that Consolidated Leasing would be willing to write a 4-year guideline lease on the equipment, including maintenance, for payments of $260,000 at the beginning of each year. Lewis’s marginal federal-plus-state tax rate is 40 percent. You have been asked to analyze the lease-versus-purchase decision, and in the process to answer the following questions:
Questions:
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Who are the two parties to this potential lease transaction?
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How will these alternative decisions impact the company’s Capital Structure and its balance sheet?
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What discount rate should be used in this Net Present Value analysis? Why?
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In the Purchase Decision, what are the cash flow impacts of the Bank Loan? (Please focus on the after tax cash flows.)