Use the Following Information to Answer the Question(s)below

question 34

Multiple Choice

Use the following information to answer the question(s) below.
Assume that it is 2012 and Rearden Metal is considering the purchase of a new blast furnace costing a total of $5 million.This furnace will qualify for accelerated depreciation: 20% can be expensed immediately,followed by 32%,19.2%,11.52%,11.52% and 5.76% over the next five years.However,because of Rearden's substantial tax loss carryforwards,Rearden estimates its marginal tax rate to be only 10% over the next five years.Since Rearden will get very little tax benefit from the depreciation expense,they consider leasing the furnace instead.Suppose that Rearden and the lessor face the same 8% borrowing rate,but the lessor has a 40% marginal tax rate.Assume that the furnace is worthless after five years,the lease term is five years,and a lease would qualify as a true tax lease.
-Assuming that Rearden's annual lease payments are $1.1 million,then the amount of the lease-equivalent loan is closest to:

• A)$3.7 million.
• B)$3.8 million.
• C)$3.9 million.
• D)$4.0 million.

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Definitions:

Fair Value Enterprise Method

A valuation approach determining the price a willing buyer would pay for an entire business in an orderly and open market transaction.

Identifiable Net Assets Method

A valuation method that calculates an entity's value based on the fair value of its identifiable tangible and intangible assets minus its liabilities.

Contingent Consideration

An obligation to transfer additional assets or equity instruments upon the fulfillment of certain conditions in a business combination.

Consolidated Retained Earnings

The cumulative amount of profits retained in the company and its subsidiaries after dividends are paid, as shown in the consolidated financial statements.