This spreadsheet solution relates to the case AMG, Inc. and Forsythe Solutions: Lease vs.

Buy
Decisions, Case #KEL217. For additional details of the case solution, please see the accompanying
teaching note.

©2006 by the Kellogg School of Management, Northwestern University. This case was prepared by H.
Nevin Ekici ’03 and Cassidy Shield ’02, in collaboration with Mike Conley at Forsythe Solutions Inc.,
under the supervision of Professor Mark Jeffery. Some facts within the case have been altered for
confidentiality reasons. Cases are developed solely as the basis for class discussion. Cases are not
intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective
management. To order copies or request permission to reproduce materials, call 800-545-7685 (or 617-
783-7600 outside the United States or Canada) or e-mail custserv@hbsp.harvard.edu. No part of this
publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in
any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the
permission of the Kellogg School of Management.
 Buy
mpanying

pared by H.
ons Inc.,
red for
s are not
neffective
685 (or 617-
part of this
smitted in
—without the
 AMG Inc and Forsythe Solutions: Lease vs Buy

Scenario 1: 1 PC Three-Year Case

Buy Option
Year 0 Year 1 Year 2 Year 3
(1) Computer costs
(2) MACRS on HW
Tax deduction
(3) (MACRS × 0.34)
Tax deduction from un-
depreciated value of PC +
(4) software
Five-year MACRS depreciation
(5) on software

(6) Tax deduction on software

Total cash flow
(1) – (2) + (3) + (4) – (5) + (6)

(7) NPV costs

(8) NPV tax deduction HW
(9) NPV loss on dep. HW
(10) NPV tax deduction on software
(11) NPV total cash flow ← Net cost of buying

Approximate NPV cost of purchasing 7,542 PC + B53s $ -

Sold after three years

Scenario 2: 1 PC Two-Year Case

Buy Option
NPV component (24-month buy) Year 0 Year 1 Year 2
(1) Computer costs
(2) MACRS on HW
Tax deduction
(3) (MACRS × 0.34)
Tax deduction from un-
depreciated value of PC +
(4) software
Five-year MACRS depreciation
(5) on software
(6) Tax break on software
Total cash flow
(1) – (2) + (3) + (4) – (5) + (6)
 (7) NPV costs
(8) NPV tax deduction HW
(9) NPV loss on dep. HW
(10) NPV tax deduction on software
(11) NPV total cash flow ← Net cost of buying

Approximate NPV cost of purchasing 7,542 PCs $ -

Sold after two years
 Lease Options
Hardware Cost
Software
Total

24-Month Rates Two-Year Lease: NPV of Payments using GST WACC

HW Assume payments are made in advance, lease HW & software
SW Month
Equity 1
Monthly HW payment
Monthly SW payment
Total monthly payments
Principle payment
HW tax payment
SW tax payment
PV HW Tax deduction
PV SW NPV total
Total PV HW
SW
PMT HW
PMT SW Assume payments are made in advance, lease HW & buy software
Total monthly payment
Total HW monthly payments
Principle payment
Tax deduction
HW
HW LRF SW ← Software is capitalized and depr
SW LRF Tax break on SW
Net software cost
NPV total

36-Month Rates
HW
SW Three-Year Lease: NPV of Payments using GST W
Equity Assume payments are made in advance
Month
PV HW 1
PV SW Total HW & SW monthly payments
Principle payment
Tax deduction
NPV total
PMT HW
PMT SW
Total monthly payment
Assume payments are made in advance, lease HW &
HW LRF
SW LRF Total HW monthly payments
Principle payment
Tax deduction
HW NPV
SW
Tax break on SW
Net software cost
NPV total
using GST WACC
ce, lease HW & software

2 3 4 5 6 7 8 9 10

ce, lease HW & buy software

← Software is capitalized and depreciated over three years

: NPV of Payments using GST WACC

are made in advance

2 3 4 5 6 7 8 9 10

are made in advance, lease HW & buy software

11 12 13 14 15 16 17 18 19 20

11 12 13 14 15 16 17 18 19 20
21 22 23 24

$0.00
$0.00
$0.00
$0.00

21 22 23 24 25 26 27 28 29 30
31 32 33 34 35 36
Buy vs Lease Options
Analysis based on one PC: $750 HW, $250 SW
Assumed purchased in the first quarter
NPV
24 Months 36 Months
Buy HW & SW
Lease HW & SW
Lease HW & Buy SW

What would you recommend?

Recommendation
 Forsythe's Profit
Forsythe makes no money on the 24-month financing; that is determined by the bank.
It does charge points for setting up the 36-month deal since there is no equity.
For 24 months it typically only makes money on the equity.
Forsythe's cost of capital for hardware is 7% for 24 months; use this as the discount rate.

24 Months

10.1% Equity Insertion

Years
NPV 0 1 2

Approximate Total Profit =

Forsythe will make more money if the lease is extended past 24 months.
It hopes that AMG will keep some computers a month or more past the lease term.
termined by the bank.
e is no equity.

this as the discount rate.

ast the lease term.

 24-Month Leaseline Cash Outflow
Assume purchase software & lease hardware
Rolling leases
9.0% 22.6% 17.8%
2002
1 2 3 4 5 6
Mar Apr May Jun Jul Aug
Total desktops/month 573 179 991 271 176 788
Month 1 HW
SW
Month 2 HW
SW
Month 3 HW
SW
Month 4 HW
SW
Month 5 HW
SW
Month 6 HW
SW
Month 7 HW
SW
Month 8 HW
SW
Month 9 HW
SW
Month 10 HW
SW
Month 11 HW
SW
Month 12 HW
SW
Mar Apr May Jun Jul Aug
Cash outflow

Total NPV

After tax deduction

NPV after tax

Total PCs in Year 1: 6388

50.7%
2003
7 8 9 10 11 12 13 14
Sep Oct Nov Dec Jan Feb Mar Apr
174 685 1891 660 194 960

$ 240,000
Sep Oct Nov Dec Jan Feb Mar Apr
 15 16 17 18 19 20 21 22
May Jun Jul Aug Sep Oct Nov Dec

May Jun Jul Aug Sep Oct Nov Dec

 2004
23 24 25 26 27 28 29 30
Jan Feb Mar Apr May Jun Jul Aug

Jan Feb Mar Apr May Jun Jul Aug

 31 32 33 34 35
Sep Oct Nov Dec Jan

Sep Oct Nov Dec Jan

MACRS Depreciation

Note: This depreciation schedule is for property placed in service halfway through the firs

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5

% Value Remaining 100% 80% 48% 28.8% 17.28% 5.76%
% Total Depreciated 0 20% 52% 71.2% 82.72% 94.24%
% Per Year Depreciated 0 20% 32.0% 19.2% 11.52% 11.52%
M A C R S D ep reciatio n

35%

30%

25%

20%

15%

10%

5%

0%
Year 1 Year 2 Year 3 Year 4 Year 5 Year 6

This depreciation schedule is for property placed in service in the first quarter.

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5

% Value Remaining 100% 65% 39% 23.4% 12.39% 1.38%
% Total Depreciated 0 35% 61% 77% 88% 99%
% Per Year Depreciated 0 35% 26% 15.6% 11.01% 11.01%
M A C R S D ep reciatio n

40%
35%
30%
25%
20%
15%
10%
5%
0%
Year 1 Year 2 Year 3 Year 4 Year 5
MA
35%
30%
25%
20%
15%
10%
5%
0%
Year 1 Year 2 Year 3 Year 4 Year 5
ce halfway through the first year.

Year 6 Year 1 Year 2 Year 3

0% MACRS 20% 32.0% 19.2%
100%
5.76%
Year 1 Year 2 Year 3
MACRS 35% 26% 15.6%

Year 6

he first quarter.

Year 6
0%
100%
1% 100%

Year 5
Year 5
Year 4 Year 5 Year 6
11.52% 11.52% 5.76%

Year 4 Year 5
11.01% 11.01%