Big Sky Hospital's new MRI machine: NAL and IRR of the lease
Big Sky Hospital plans to obtain a new MRI that costs $1.5 million and has an estimated four-year useful life. It can obtain a bank loan for the entire amount and buy the MRI or it can lease the equipment. Assume that the following facts apply to the decision:
The MRI falls into the three-year class for tax depreciation, so the MACRS allowances
are 0.33, 0.45, 0.15, and 0.07 in Years 1 through 4, respectively.
Estimated maintenance expenses are $75,000 payable at the beginning of each year whether the MRI is leased or purchased.
Big Sky's marginal tax rate is 40 percent.
The bank loan would have an interest rate of 15 percent.
If leased, the lease (rental) payments would be $400,000 payable at the end of each of the next four years.
The estimated residual (and salvage) value is $250,000.
a. What are the NAL and IRR of the lease? Interpret each value.
b. Assume now that the salvage value estimate is $300,000, but all other facts remain the same. What is the new NAL? The new IRR?