Reference no: EM133399484

Question 1: Acme has branched out to rentals of office furniture to start-up companies. Consider a $4,200 desk. Desks last for six years and can be depreciated immediately. Assume that lease rates for old and new desks are the same and that Acme's pretax administrative costs are $320 per desk at the beginning of each year. The cost of capital is 9% and the tax rate is 21%. Lease payments are made in advance, that is, at the start of each year. The inflation rate is zero. Suppose a blue-chip company requests a six-year financial lease for a $4,200 desk. The company has just issued five-year notes at an interest rate of 6% per year.

What is the break-even rate in this case? (Do not round intermediate calculations. Round your answer to 2 decimal places.)

Question 2: Square File's assets are worth $140. It has $100 of zero-coupon debt outstanding that is due to be repaid at the end of two years. The risk-free interest rate is 5%, and the standard deviation of the returns on Square File's assets is 40% per year.

Calculate the present value of the company's debt and equity. (Do not round intermediate calculations. Round your answers to 2 decimal places.)

Question 3: Nodhead College needs a new computer. It can either buy it for $345,000 or lease it from Compulease. The lease terms require Nodhead to make six annual payments (prepaid) of $81,000. Nodhead pays no tax. Compulease pays tax at 30%. Compulease can depreciate the computer for tax purposes straight-line over five years. The computer will have no residual value at the end of year 5. The interest rate is 6%.

a. What is the NPV of the lease for Nodhead College? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to the nearest whole number.)

b. What is the NPV for Compulease? (Do not round intermediate calculations. Round your answer to the nearest whole number.)

c. What is the overall gain from leasing? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to the nearest whole number.)

Question 4: Imagine yourself in the position of Thomas Pierce III, president of Greymare Bus Lines. Your firm was established by your grandfather, who was quick to capitalize on the growing demand for transportation between Widdicombe and nearby townships. The company has owned all its vehicles from the time the company was formed; you are now reconsidering that policy. Your operating manager wants to buy a new bus costing $81,000. The bus will last only eight years before going to the scrap yard. You are convinced that investment in the additional equipment is worthwhile. However, the representative of the bus manufacturer has pointed out that her firm would also be willing to lease the bus to you for eight annual payments of $15,000 each. Greymare would remain responsible for all maintenance, insurance, and operating expenses. If Greymare does not own the bus it cannot depreciate it and therefore, it gives up a valuable depreciation tax shield. We assume depreciation would be calculated immediately. Greymare's borrowing rate is 8%. Assume this is a financial lease.

a. What is the value of the lease if Greymare's marginal tax rate is Tc = 0.30? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations. Enter your answer in thousands rounded to 2 decimal places.)

b. What would the lease value be if the tax rate is 21%, but for tax purposes, the initial investment had to be written off in equal amounts over years 1 through 5? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations. Enter your answer in thousands rounded to 2 decimal places.)

Question 5: You own a bond with an annual coupon rate of 8% maturing in two years and priced at 85%. Suppose that there is a 11% chance that at maturity the bond will default and you will receive only 45% of the promised payment. Assume a face value of $1,000.

a. What is the bond's promised yield to maturity? (Enter your answer as a percent rounded to 2 decimal places.)

b. What is its expected yield (i.e., the possible yields weighted by their probabilities)? (Enter your answer as a percent rounded to 2 decimal places.)

Question 6: Suppose that National Waferonics has before it a proposal for a four-year financial lease.

Year 0 Year 1 Year 2 Year 3
Lease cash flow +62,500 -28,100 -23,500 -18,900
These flows reflect the cost of the machine, depreciation tax shields, and the after-tax lease payments. Ignore salvage value. Assume the firm could borrow at 14% and faces a 21% marginal tax rate.

a. What is the value of the equivalent loan? (Do not round intermediate calculations. Round your answer to 2 decimal places.)

b. What is the value of the lease? (Do not round intermediate calculations. Round your answer to 2 decimal places.)