Deck 25: Leasing

Question 1

Lease payments can be thought of as:

A) an ordinary annuity
B) an annuity due
C) a series of unequal payments
D) none of the above

Answer 1

an annuity due

Question 2

If the after-tax lease payments per year is $17,000, calculate the before tax lease payments if the tax rate is 35%:

A) $48,571
B) $22,950
C) $26,154
D) none of the above

Answer 2

$26,154

Question 3

If annual lease payments for a firm are $26,000, calculate the tax-shield of lease payment, given that the tax rate is 35%

A) $9,100
B) $16,900
C) $40,000
D) none of the given answers

Answer 3

$9,100

Question 4

The firm X sold the office building and used the proceeds to improve its financial position. The firm then leased the building back in order to continue to use the facilities. This is an example of:

A) an operating lease
B) a sale and lease-back
C) a leveraged lease
D) a fully amortized lease

Question 5

If the after-tax present value of buying equipment and using it for 6 years is $100,000, calculate the break-even after-tax yearly lease payment (7 payments) using 7% discount rate. (Assume that the lease payments are made at the beginning of the year.)

A) $14,286
B) $17,341
C) $18,555
D) None of the above

Question 6

If the lessor borrows much of the purchase price of a leased asset, the lease is called:

A) A leveraged lease
B) A sale-and-leaseback
C) A capital lease
D) A non-recourse lease

Question 7

The following are dubious reasons for leasing:
I. leasing avoids capital expenditure controls
II. leasing preserves capital
III. leasing can make the firm's balance sheet and income statement look better by increasing book income or decreasing book assets or both
IV. avoiding the alternative minimum tax

A) I and II only
B) I, II and III only
C) I, II, III and IV
D) I, II and IV only

Question 8

The following are sensible reasons for leasing except:

A) Short-term leases are convenient
B) Standardization leads to low administrative and transaction costs
C) Leasing preserves capital
D) Lease cancellation options are valuable

Question 9

Leveraged leases are a form of:

A) Operating lease
B) Financial lease
C) Lease which considerably reduces lessee's obligations
D) All of the above

Question 10

Sale and lease back arrangements are prevalent in:

A) Air-crafts
B) Computers
C) Real estate
D) Standard industrial equipment

Question 11

The following are advantages to lessors over secured lenders if a firm is under bankruptcy except:

A) the bankruptcy court decides that the leased asset is essential to the lessee's business and affirm the lease thus paving the way for continued lease payments.
B) the lease is rejected and the lessor can recover the leased asset.
C) a lessee in financial distress may be able to renegotiate the lease thus forcing the lessor to accept lower lease payments.
D) none of the above are advantages to the lessor.

Question 12

The following are sensible reasons for leasing:
I. short-term leases are convenient
II. standardization leads to low administrative and transaction costs
III. lease cancellation options are valuable
IV. tax shields can be used

A) I and II only
B) I, II and III only
C) I, II, III and IV
D) I, II, and IV only

Question 13

If the depreciation is $20,000 and the tax rate is 35%, calculate the depreciation tax- shield:

A) 20,000
B) 13,000
C) 7,000
D) None of the above

Question 14

In a lease arrangement, the user of the asset is:

A) Lien
B) Lessee
C) Lessor
D) Lease

Question 15

Which of the following statements is not true? I) The lessee does not have to buy the equipment
II) The lessee is responsible for making the lease payments
III) The lease payments are not tax-deductible
IV) The lessee gives up the depreciation tax shield

A) I only
B) II only
C) III only
D) I, II, and IV only

Question 16

Which of the following is probably not a good reason for leasing instead of buying?

A) Leasing may provide off-balance sheet financing
B) Leasing may reduce administrative and transaction costs
C) Tax shields can be used
D) All of the above are good reasons

Question 17

Which of the following is not a financial lease?

A) A direct lease
B) An operating lease
C) A sale-and-leaseback
D) None of the above

Question 18

In a lease arrangement, the owner of the asset is the:

A) Lessor
B) Lessee
C) Lien
D) None of the above

Question 19

FASB defines capital lease as leases that meet the following:
I. The lease agreement transfers ownership to the lessee before the lease expires. II) The lessee can purchase the asset for a bargain price when lease expires.
III. The lease lasts for at least 75% of the asset's estimated economic life.
IV. The present value of the lease payments is at least 90% of the asset's value.

A) I or II
B) I or II or III
C) I or II or III or IV
D) II or III or IV

Question 20

The following are sensible reasons for leasing:
I. maintenance is provided
II. tax shields can be used
III. leasing avoids capital expenditure controls
IV. avoiding the alternative minimum tax

A) I and II only
B) I, II, and III only
C) I, II, III and IV
D) I, II and IV only

Question 21

If annual lease payments for a firm are $26,000, calculate the after-tax lease payments, given that the tax rate is 35%

A) $9,100
B) $16,900
C) $40,000
D) none of the given answers

Question 22

A firm is considering leasing. The firm can borrow at 9%, and the corporate tax rate is
30%) What is the discount rate for valuing the lease?

A) 9%
B) 30%
C) 2.7%
D) 6.3%

Question 23

The cost of a 7 year lease is $150,000 per year and matches the exact cost of a loan to finance the purchase of equipment. Ceteris paribus, and given a usable life of 7 years with no salvage value, what is the advantage of a lease given a discount rate of 7% and no taxes?

A) $0
B) $800,000
C) $1,500,000
D) $2,000,000

Question 24

The user of the leased asset is called the lessee and the owner of the asset is called the lessor.

Question 25

Your firm is considering leasing a magic box. The lease lasts for 3 years. The lease calls for 4 payments if $1,000 per year with the first payment occurring at lease inception. The magic box would cost $3,600 to buy and would be straight-line depreciated to zero salvage value over 3- years. The firm can borrow at 6%, and the corporate tax rate is 30%. What is the NPV of the lease?

A) $30.50
B) -$30.50
C) -$65.75
D) None of the above

Question 26

A computer costs $500,000 and is depreciated for tax purposes straight-line over years 1 through 5. Assume that it has zero salvage value at the end of 5 years. The user wishes to lease the computer by making 6 annual lease payments, the first of which is due immediately.
If taxes are paid without delay and the rate of interest is 10%, what is the minimum acceptable lease payment for a lessor who pays tax at 35%? (Approximately)

A) $71,905
B) $105,798
C) $123,455
D) Need more information to solve

Question 27

In a sale and lease-back, the firm sells the asset it already owns and leases it back from the buyer.

Question 28

Assume the initial financing provided by a lease is $500,000 and the present value of the cash outflow attributable to the lease is $525,000. Then the net value of the lease is:

A) $25,000
B) -$25,000
C) $1,025,000
D) None of the above

Question 29

Your firm is considering leasing a new computer. The lease lasts for 9 years. The lease calls for 10 payments of $1,000 per year with the first payment occurring immediately. The computer would cost $8,100 to buy and would be depreciated using the straight-line method to zero salvage over 9 years. The firm can borrow at a rate of 8%. The corporate tax rate is
30%) What is the NPV of the lease?

A) -$1039.78
B) $6,610.22
C) $686.00
D) $360.00

Question 30

Assume the initial financing provided by a lease is $100,000 and the present value of the cash outflow attributable to the lease is $90,000. Then the net value of the lease is:

A) +$10,000
B) -$10,000
C) $190,000
D) None of the above

Question 31

If the interest rate on debt is rD, what adjusted discount rate should the company use when valuing financial leases? The marginal tax rate is Tc.

A) rD(1 - Tc)
B) rDTc
C) rD
D) 1 - rDTc

Question 32

Which of the following conditions in a lease agreement that would probably cause the
Internal Revenue Service to treat the lease as an installment sale?
I. Giving the lessee the right to acquire the assets for $1 when the lease expires
II. Limiting the lessee's right to issue debt while the lease is in force
III. Limiting the lessee's right to pay dividends while the lease is in force
IV. Designating part of the lease payment as interest

A) I, II, III, and IV
B) I, II, and III only
C) I only
D) IV only

Question 33

One of the sensible reasons for leasing is that short-term leases are convenient.

Question 34

Under a leveraged lease, the lessee borrows money and is then used to make the lease payments.

Question 35

The cost of a 10 year lease adds $200,000 per year in after tax cash flows, compared to using a loan to purchase the asset. Ceteris paribus, and given a usable life of 10 years with no salvage value, what is the advantage of a lease given a discount rate of 7%?

A) $200,000
B) $1,400,000
C) $1,800,000
D) $2,000,000

Question 36

A short-term, cancelable lease is known as a financial lease; a long-term, non-cancelable lease is called an operating lease.

Question 37

If the net present value of a project is -$10,000, and the net present value of leasing for the project is +$12,000, calculate the APV (Adjusted present value) of the project:

A) -$2,000
B) $2,000
C) $12,000
D) -$10,000

Question 38

A lessee in financial distress may be able to renegotiate the lease and force the lessor to accept lower lease payments.

Question 39

You have shopped for a new car and the best purchase price you can get is $15,000. You have been offered a lease with 36 monthly payments of $249 and a residual value of $7,500. The interest rate that the bank would charge you to borrow money is 9%(APR). What is the NPV of the lease arrangement? (Approximately) (Ignore taxes)

A) $1,439
B) $1,380
C) $406
D) None of the above

Question 40

If a firm can borrow at 9% , what discount rate should the firm use to discount lease cash flows? (The marginal tax rate for the firm is 35%)

A) 3.15%
B) 5.85%
C) 9.00%
D) none of the above

Question 41

What is the discount rate used for lease or buy analysis?

Question 42

If lease expenses are not tax deductible, it is likely that leases will still have significant benefits to a firm.

Question 43

Leasing is more likely to be advantageous when the lessor's tax rate is substantially higher than the lessee's.

Question 44

Briefly explain sale and lease back arrangement.

Question 45

What advantage does a sale lease back to a SPE have?

Question 46

Financial leases are evaluated by discounting lease cash flows at the company's WACC.

Question 47

What happens to the NPV of leasing if the tax rate increases?

Question 48

Discuss the differences between an operating lease and a financial lease.

Question 49

Discuss the critical conditions under which leasing may be advantageous.

Question 50

Briefly explain the term "cross-border leases."

Question 51

A dubious reason for leasing is that leasing preserves capital.

Question 52

The tax code can be modified to alter the attractiveness of leases.

Question 53

The decision rule for lease or buy decision is "buy if the equivalent annual cost of ownership and operation is greater than the best rate you can get from an outsider (lessor)."

Question 54

Briefly explain how lessor's position would be affected if lessee firm is under financial distress.

Question 55

What happens to the NPV of leasing if the lease payments increase?