Problem:
(Net advantage to leasing) New Horizon Natural Foods is considering whether to lease a delivery truck. A leasing company has offered to lease the truck. It costs $35,000. New Horizon has proposed a five-year lease that calls for annual payments of $7,850 at the beginning of each year. New Horizon could depreciate the truck to $5,000 at the end of five years on a straight-line basis and claim depreciation tax deductions at the beginning of each year. Its marginal tax rate is 34%, its cost of five-year secured debt is 10%, and its required return for the project is 12% after tax and 16% pretax.
Q1. Should New Horizon lease the truck, or borrow and buy?
Q2. Suppose instead that New Horizon does not expect to pay income taxes in the foreseeable future. Should New Horizon lease the truck, or borrow and buy?