CMA Final · Strategic Financial Management · Leasing Decisions
Iyer Pharma is evaluating a lease versus buy decision. Equipment costs Rs 8,00,000, life 4 years, straight-line depreciation to nil salvage. Annual lease rental is Rs 2,50,000 at the end of each year. Tax rate is 25%. The after-tax discount rate is 8%; 4-year annuity factor at 8% is 3.312. What is the PV of net cash outflow under leasing?
The present value of the leasing outflow is Rs 6,21,000. The rental of Rs 2,50,000 is tax deductible at 25%, giving an after-tax outflow of Rs 1,87,500 a year, which discounted at the 4-year annuity factor of 3.312 yields that value.
- ARs 6,21,000Correct
- BRs 8,28,000
- CRs 6,84,000
- DRs 5,52,000
Explanation
After-tax rental = 2,50,000 x (1 - 0.25) = 1,87,500. PV = 1,87,500 x 3.312 = Rs 6,21,000. Leasing forgoes no depreciation shield in this PV; the shield belongs to buying. Option B ignores tax (2,50,000 x 3.312 = 8,28,000).
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