22-1

Incremental Cash Flows 22.4

• After-tax lease payment (outflow)• Lease payment*(1 – T)

• Lost depreciation tax shield (outflow)• Depreciation * tax rate for each year

• Initial cost of machine (inflow)• Inflow because we save the cost of purchasing

the asset now

• May have incremental maintenance, taxes or insurance depending on the type of lease and whether the leased asset is replacing one currently owned

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22-2

Example: Lease Cash Flows

• ABC, Inc. needs new cars. The equipment cars would cost $10,000 each if purchased and would be depreciated at a CCA rate of 40%. They would help the sales force generate $6,000 in additional sales per year for 5 years. No salvage is expected after the 5 years. Alternatively, the company can lease the cars for $2,500 per year and payments are due at the beginning of the year. The marginal tax rate is 40%. What are the incremental cash flows?

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22-3

Example: Lease Cash Flows continued

• What are the incremental cash flows?• After-tax lease payment = 2,500(1 - .4) = 1,500

(outflow years 1 - 5)• Cost of the car = 100,000 (inflow year 0)• Lost depreciation tax shield

• Table 22.2: Tax shield on CCA for car

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