# comparison of borrow buy with operating and capital leases caro 241366

Comparison of borrow/buy with operating and capital leases. Carom Sports Collectibles Shop plans to acquire, as of January 1, 2008, a computerized cash register system that costs \$100,000 and has a five-year life and no salvage value. The company considers two plans for acquiring the system:

(1) Outright purchase. To finance the purchase, the firm will issue \$100,000 of face value, 10% semiannual coupon bonds on January 1, 2008, at par. The bonds mature in five years.

(2) Lease. The lease requires five annual payments on December 31, 2008, 2009, 2010, 2011, and 2012. The lease payments are such that they have a present value of \$100,000 on January 1, 2008, when discounted at 10% per year.

The firm will use the straight1ine method for all depreciation and amortization computations for assets.

a. Verify that the amount of the required lease payment is \$26,380 by constructing an amortization schedule for the five payments. Note that there will be a \$2 rounding error in the fifth year. Nevertheless, you may treat each payment as being \$26,380 in the rest of the problem.

b. What balance sheet accounts are affected if the firm selects plan (1)? What if the firm uses plan (2) and the firm uses the operating lease method? What if the firm selects plan (2) and it uses the capital lease method?

c. What is the total depreciation and interest expense for the live years under plan (1)?

d. What is the total expense for the five years under plan (2) if the firm could account for the lease as an operating lease? As a capital lease?

e. Why are the answers in part d the same? Why do the answers in part c differ from those in part d?

f. What is the total expense for the first year under plan (1)? Under plan (2) accounted for as an operating lease? Under plan (2) accounted for as a capital lease?

g. Repeat part f for 2012.

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