A company is considering whether it should buy or lease  equipment that costs Rs 80 lakh. A finance company has offered to lease the equipment for 5 years at annual lease payments Rs 20 lakh at the beginning of each year. The owner of the equipment can claim depreciation on written-down basis at 25 per cent each year. The company’s (lessee’s) tax rate is 35 per cent, and its cost of borrowing is 14 per cent, and the cost of capital is 16 per cent.

       (a)  Should the company buy the asset or lease it?

       (b)  What would your answer be if (a) we assume that the equipment has a salvage value of Rs 10 lakh at the end of its life, and that the lessor will maintain the equipment which would otherwise cost the lessee Rs 1 lakh each year? (b) Instead of lease the company goes for a hire purchase, how much maximum hire-purchase instalment should it be prepared to pay each year?

 

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