Question

Kemba Company leases a piece of machinery with a fair value of $55,000 to Walker Corp. The lease is for 5 years and calls for payments at the beginning of each year. Kemba sets the lease payments to earn an 8% return and estimates that the machinery will have a residual value of $23,000 at the end of the lease, though this residual amount is unguaranteed. Determine the amount of the annual lease payments.

Answer 1

Kemba Company: (in $)

Annual lease payment = {Present value - Residual value/(1+rate)ⁿ} / {(1-1(1+rate)ⁿ) /rate}

= {55,000 - 23,000/(1+0.08)⁵} / {(1-1/(1+0.08)⁵)/0.08}

= 55,000-(23,000/0.681) / (1-0.681)/0.08

= 55,000 - 33,774 / 3.9875

= 5323 (approximately)

Annual lease payment is $ 5323.