CMA Final · Strategic Financial Management · Leasing Decisions
Sundaram Textiles leases a machine from Kaveri Leasing for 4 years at an annual lease rental of Rs 2,50,000 payable at the end of each year. The tax rate is 25% and the lessee's after-tax discount rate is 10%. The PV annuity factor for 4 years at 10% is 3.170. What is the present value of the after-tax lease rental outflow for the lessee?
The present value is Rs 5,94,375. Lease rentals are tax deductible, so the after-tax rental is Rs 1,87,500 a year, and discounting it for four years at 10% using the annuity factor 3.170 gives this figure.
- ARs 5,94,375Correct
- BRs 7,92,500
- CRs 6,34,000
- DRs 2,37,750
Explanation
After-tax rental = 2,50,000 x (1 - 0.25) = 1,87,500. PV = 1,87,500 x 3.170 = 5,94,375. Using the pre-tax rental gives 7,92,500, which ignores the tax shield on lease rentals.
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