December-2013, 8(c)

Leasing vs Borrowing (Buying)

PV of Cash Outflows under Leasing Alternative:

PV
Lease Tax Benefit Cash
Year-end Factor PV of Cash outflow
Payments @50% Outflows
@7%
0 220,000 220,000 1.0000 220,000
1-4 220,000 110,000 110,000 3.3872 372,593
5 110,000 -110,000 0.7130 -78,428
514,165

PV of Cash Houtflows under Buying Alternative:

Instalment = Loan Amount / PV Annuity Factor @14% [considering beginning of the period]
= 10,00,000 / 3.9137
= 255,513

Loan Beginning Ending

Year-end Interest Principal
Instalment Balance Balance
0 255,513 1,000,000 255,513 744,487
1 255,513 744,487 104,228 151,284 593,203
2 255,513 593,203 83,048 172,464 420,739
3 255,513 420,739 58,903 196,609 224,129
4 255,513 224,129 31,378 224,135 -5

Depreciation = (Cost - SV)/ No of years

= (1000000 - 0) / 5
= 200000
Tax PV
Year- Loan Interest Tax Benefit Net Cash PV of Cash
Depr Deductable Factor
end Instalment @14% @50% outflow outflow
Expenses @7%
0 255,513 - - 255,513 1.0000 255,513
1 255,513 104,228 200,000 304,228 152,114 103,399 0.9346 96,634
2 255,513 83,048 200,000 283,048 141,524 113,988 0.8734 99,562
3 255,513 58,903 200,000 258,903 129,452 126,061 0.8163 102,903
4 255,513 31,378 200,000 231,378 115,689 139,824 0.7629 106,671
5 - 200,000 200,000 100,000 -100,000 0.7130 -71,299
589,984

The company is advised to go for leasing as PV of cashflows under leasing alternative (514,165) is lower
than that under buying alternative (589,984).