(Negotiating a lease rate) Amalgamated Leasing Corp. would like to submit a leasing pro- posal to the Sandoval Hardware Manufacturing Company. Sandoval has asked to lease $5 million worth of equipment under a six-year lease. Amalgamated can depreciate the equipment for tax purposes on a straight-line basis over the six-year term to an estimated residual value of $250,000. The leasing firm’s income tax rate is 40%. Amalgamated has estimated Sandoval’s six-year cost of funds to be 10% for secured debt (83.33% financing) and 12% for unsecured debt. It has also estimated the required after-tax return for an investment in the assets to be 15%.
a. At what lease rate would Amalgamated be indifferent to making the lease?
b. Assume Sandoval pays income taxes at a 30% rate. Calculate Sandoval’s net advantage to leasing at Amalgamated’s indifference lease rate.
c. At what lease rate would Sandoval be indifferent?
d. Is it possible for Amalgamated and Sandoval to find a mutually beneficial lease rate?