KKR Live, Inc., a carnival operating firm based in Laramie, Wyoming, is considering the acquisition of a new German-made carousel, with a passenger capacity of 30. KKR can purchase the carousel through the use of its normal financing mix (30 percent debt and 70 percent common equity) or lease it. Pertinent details follow:
Acquisition price of the carousel $25,000 Useful life 4 years Salvage value $5,000 Depreciation method Straight-line Annual cash savings before tax and depreciation from the $7,000 carousel Rate of interest on a four-year installment loan 11 percent Marginal tax rate 50 percent Annual rentals (four-year lease) $7,000 Annual operating expenses included in the lease $1,250 Cost of capital 13 percent
a. Evaluate whether the carousel acquisition is justified through normal purchase financing.
b. Should KKR lease the asset?
