Introduction to Corporate Finance

PART 4: CAPITAL STRUCTURE AND PAYOUT POLICY

Purchase. If the company purchases the machine, its cost of $80,000 will be financed with a

five-year, 9% loan (pre-tax) requiring equal end-of-year payments of $20,567. The machine will be

depreciated on a straight-line basis for five years. The company plans to keep the equipment and

use it beyond its five-year recovery period.

a Determine the after-tax cash outflows of Eastern Transport under each alternative.

b Find the present value of the after-tax cash outflows for each alternative using the after-tax cost

of debt.

c Which alternative – lease or purchase –would you recommend? Why?

P14-8 Given the lease payments, years remaining until the leases expire and discount rates shown in

the following table, calculate the capitalised value of each lease. Assume that lease payments are

made at the beginning of each year.

Lease Lease payment Remaining term (years) Discount rate (%)

A $ 40,000 12 10

B 120,000 8 12

C 9,000 18 14

D 16,000 3 9

E 47,000 20 11

LONG-TERM DEBT AND LEASING

mini case

The CFO of your company asks you to review the long-

term debt position of the company to decide if it should

make any changes in its borrowing arrangements. Before

conducting this review, you decide to bring yourself up

to date on terminology and types of long-term borrowing

arrangements. Therefore, as a start, you decide to answer

the following questions.

ASSIGNMENT

1 What types of debt covenants might managers

consider?

2 What are the major factors that affect the cost or

interest rate of a debt instrument?

3 What are term loans, and what are their characteristics?

4 What are syndicated loans, and what are their primary

applications?

5 What are some of the legal arrangements used to

protect lenders related to corporate bonds?

6 What are some of the general features of corporate

bonds?

7 What options are available for a company that wishes to

avoid a large single repayment of principal in the future

or to refund a bond prior to maturity?

8 In what ways are leases similar to long-term debt?

9 What are the two basic types of leases?

10 What are the advantages and disadvantages of leasing?