Suppose BETA (a multinational manufacturer and marketer of consumer and professional products) can lease a new computer data processing system for $975,000 per year for five years under an operating lease. Alternatively, it can purchase the system for $4.25 million. Assume BETA has a borrowing cost of 7% and a tax rate of 35%, and the system will be obsolete at the end of five years.
A) If BETA will depreciate (for tax purposes) the computer equipment on a straight-line basis over the next five years, and if the operating lease qualifies as a true tax lease, is it better to finance the purchase of the equipment or to lease it?
B) Suppose that if BETA buys the equipment, it will use accelerated depreciation for tax purposes. Specifically, the CCA rate will be 45% and any undercoated capital cost (UCC) in year 6 will be taken as a terminal loss. Compare leasing with purchase in this case.
Show your reasoning and calculations.