Problem:
Your firm wants to lease a $500,000 piece of equipment. The equipment has a 5-year life and a salvage value of $100,000 at the end of year 5. Depreciation is straight-line over 5 years to a zero book value. There will be 5 pre-paid lease payments on the equipment. Purchasing the asset has a positive NPV for your firm. Assume the tax rate is equal to your effective tax rate. The before-tax cost of debt is equal to the 5-year government bond rate plus the appropriate spread for your firm (based on the default risk).
a) What is the maximum before-tax payment your firm is willing to make?
b) Aside from changing the lease payment, what is one factor that will make leasing more attractive to your firm?