PRIMUS

AUTOMATION
Presented to: Dr. G.C. Chattopadhyay
Presented by:
Himanshu Sanga -
2K16GA010
Qazi Ikram -
2K16GA003
Abhishek Sidhu -
2K16GA020
Mayank Shridhar -
2K16IB003
Smridhi Ratra -
2K16GA028
 Primus Automation
Innovative producer of world-class factory-automation products and services with operations in
the United States, Europe, and Asia.

Products:
Programmable controllers
Numerical controllers
Industrial computers
Manufacturing software
Factory-automation systems
Data communication networks

Objectives:
Maintain leadership in market share
Increase sales by 15% a year
Achieve its targets for net income and working capital turnover
 Avantjet

Manufacturer of corporate-jet aircraft. Avantjet is trying to acquire an

automation system that will cut costs and accelerate the companys
production line.
Some things to note:
Capital Intensive
Highly levered
CEO ordered a moratorium on any capital expenditures that will
negatively affect the income statement and balance sheet
 Financial Situation

In order for Avantjet to acquire the automation system they could:

1. They could purchase a system with cash or borrowed funds.
2. Acquire the equipment through a conditional sale title passes to the
firm upon receipt of the final payment
3. Lease the equipment in two ways:
I. Capital Lease

II. Operating Lease

 Lease Characteristics

A lease is a rental agreement that involves a series of fixed payments

that extend over several periods.

Lessor owns the property that is leased.

Lessee acquires the assets productive value from the lessor, but
relinquishes the residual value.

Residual Value- what the asset is worth at the end of the lease
 Lease Evaluation

By the lessee
Is leasing the asset less costly than buying it?
What company will offer the best leasing terms?

By the lessor
Will the lease payments provide a satisfactory return on the capital
invested in the leased asset?
Capital Lease

Spans the entire life of the asset, no cancellation clause.

Lessee retains ownership of the equipment and is exposed
to the risk of early changes in the assets value.
Lessee is required to depreciate the equipment by showing
it as an asset and liability on their balance sheet.
Not able to deduct the lease payment from income taxes
Operating Lease

Cancellation clause
Technological obsolescence
Automation system would not appear on Avantjets balance sheet and at the
end of the lease term, the equipment would revert back to Primus
Automation
Not fully amortized
Lessee discount
Lessor can renew, re-lease, or sell
Lease payments are treated as an ordinary expense, deductible from taxable
income
Balance Sheet
Lease Options

Leasing Option 1 = $155,040

Leasing Option 2 = $160,003

Leasing Option 3 = $162,350

Leasing Option 4 = $164,760

 Loan Amortization Schedule
Loan Amortization Table A

Year 1 2 3 4 5

Beginning Balance $ 715,000 $ 596,713 $467,189 $325,360 $170,057

Annual Payment $186,212 186,212 186,212 186,212 186,212 186,212
Interest Before Tax @ 9.50% 67,925 56,688 44,383 30,909 16,155
Principal Reduction 118,287 129,524 141,829 155,303 170,057

Ending Balance $ 596,713 $467,189 $325,360 $170,057 $0

Tax Rate 34.00%
Interest After Tax $44,831 $37,414 $29,293 $20,400 $10,663

Total Interest Paid $142,600

Total Principal Paid $715,000

PMT(Pretax Annual Rate, Term, -715000)

 Calculating Operating Lease NPV
(Lessees Perspective)
Option 1 A
Exhibit 4
Sample Calculation of the Present Value of Cash Outflows1

Tax rate: 34.00% Equipment cost: $ 715,000

Pretax interest rate: 9.50% Lease payment: $ 155040

Interest Five-Year Residual

Payment MACRS3 Depr. Depr. Cash Flow Loan Lease
after Principal Depr. before Tax after Cash Cash
Year Tax2 Payment2 Rate Tax Savings Tax4 Outflow5 Outflow6
0 $0 $102,326
1 $44,831 $118,287 20.00% $143,000 ($48,620) $114,498 $102,326
2 $37,414 $129,524 32.00% $228,800 ($77,792) $89,146 $102,326
3 $29,293 $141,829 19.20% $137,280 ($46,675) $124,447 $102,326
4 $20,400 $155,303 11.52% $82,368 ($28,005) $147,698 $102,326
5 $10,663 $170,057 11.52% $82,368 ($28,005) ($67,199) $85,515 $0
Sum $142,600 $715,000 94.24% $673,816 ($229,097) ($67,199) $561,303 $511,632
NPV $469,273 $454,717
 Calculating Lease NPV
(Lessors Perspective)
Option 1

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Tax 34.00%

Net Purchase Price (715,000) Kd 9.50%

Depreciation Tax Savings 48,620 77,792 46,675 28,005 28,005
Lease Payment 155,040 155,040 155,040 155,040 155,040
Tax on Lease Payment (52,714) (52,714) (52,714) (52,714) (52,714)

Residual Value 67,199

Tax on Residual Value (15,767)

Net Cash Flow (612,674) 150,946 180,118 149,001 130,331 79,437

NPV (17,860)
IRR 4.52%
 Calculating Lease IRR
Option 1 A
Exhibit 5
Sample Calculation of the Internal Rate of Return1
for Lease Financing

Lease

Lease Forgone Tax Forgone Initial Payment

Payment Savings Residual Value Purchase Less

after Associated with after Price Incremental

Year Tax2 Depreciation2 Tax2 Saved Cash Flow

0 ($108,742) $ 715,000 $606,258
1 ($108,742) ($48,620) ($157,362)
2 ($108,742) ($77,792) ($186,534)
3 ($108,742) ($46,675) ($155,417)
4 ($108,742) ($28,005) ($136,747)
5 $0 ($28,005) ($67,199) ($95,204)
Sum ($543,708) ($229,097) ($67,199) $715,000 ($125,005)
IRR 7.19%
 Leasing Options Offered by
Primus Equipment Finance Division
 NPV for Primus
Options 1 & 2
Option 1
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Tax 34.00%
Net Purchase Price (715,000) Kd 9.50%
Depreciation Tax Savings 48,620 77,792 46,675 28,005 28,005
Lease Payment 155,040 155,040 155,040 155,040 155,040
Tax on Lease Payment (52,714) (52,714) (52,714) (52,714) (52,714)
Residual Value 67,199
Tax on Residual Value (15,767)
Net Cash Flow (612,674) 150,946 180,118 149,001 130,331 79,437

NPV (17,860)
IRR 4.52%

Option 2
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5
Net Purchase Price (715,000)
Depreciation Tax Savings 48,620 77,792 46,675 28,005 28,005
Lease Payment 160,002 160,003 160,003 160,003 160,003
Tax on Lease Payment (54,401) (54,401) (54,401) (54,401) (54,401)
Residual Value 67,199
Tax on Residual Value (15,767)
Net Cash Flow (609,399) 154,222 183,394 152,277 133,607 79,437

NPV (3,156)
IRR 5.49%
 NPV for Primus
Options 3 & 4
Option 3
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Tax 34.00%
Net Purchase Price (715,000) Kd 9.50%
Depreciation Tax Savings 48,620 77,792 46,675 28,005 28,005
Lease Payment 162,349 162,350 162,350 162,350 162,350
Tax on Lease Payment (55,199) (55,199) (55,199) (55,199) (55,199)
Residual Value 67,199
Tax on Residual Value (15,767)
Net Cash Flow (607,850) 155,771 184,943 153,826 135,156 79,437

NPV 3,798
IRR 5.95%

Option 4
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5
Net Purchase Price (715,000)
Depreciation Tax Savings 48,620 77,792 46,675 28,005 28,005
Lease Payment 164,759 164,760 164,760 164,760 164,760
Tax on Lease Payment (56,018) (56,018) (56,018) (56,018) (56,018)
Residual Value 67,199
Tax on Residual Value (15,767)
Net Cash Flow (606,259) 157,362 186,534 155,417 136,747 79,437

NPV 10,938
IRR 6.43%
 Summary
Scenario A B C D
Effective tax rate 34.0% 34.0% 0.0% 0.0%
Pretax cost of debt 9.5% 13.0% 9.5% 13.0%
After-tax cost of debt 6.27% 8.58% 9.50% 13.00%

NPV of loan (borrow-and-buy) $469,273 $484,546 $663,800 $671,253

IRR of loan (borrow-and-buy) 6.27% 8.58% 9.50% 13.00%

Leasing option #1 $155,040 $155,040 $155,040 $155,040

NPV of leasing option #1 $454,717 436,915 651,863 616,202
IRR of lease 5.32% 5.32% 8.61% 8.61%
Lease advantage over borrowing $14,556 $47,631 $11,937 $55,050

Leasing option #2 $160,003 $160,003 $160,003 $160,003

NPV of leasing option #2 $469,273 $450,901 $672,730 $635,927
IRR of lease 6.27% 6.27% 10.17% 10.17%
Lease advantage over borrowing $0 $33,645 ($8,930) $35,326

Leasing option #3 $162,350 $162,350 $162,350 $162,350

NPV of leasing option #3 $476,156 $457,515 $682,598 $645,255
IRR of lease 6.72% 6.72% 10.91% 10.91%
Lease advantage over borrowing ($6,883) $27,031 ($18,797) $25,9978

Leasing option #4 $164,760 $164,760 $164,760 $164,760

NPV of leasing option #4 $483,225 $464,306 $692,730 $654,834
IRR of lease 7.19% 7.19% 11.68% 11.68%
Lease advantage over borrowing ($13,952) $20,239 ($28,930) $16,419
 Summary
Scenario A B C D
Effective tax rate 34.0% 34.0% 0.0% 0.0%
Pretax cost of debt 9.5% 13.0% 9.5% 13.0%
After-tax cost of debt 6.27% 8.58% 9.50% 13.00%

NPV of loan (borrow-and-buy) $469,273 $484,546 $663,800 $671,253

IRR of loan (borrow-and-buy) 6.27% 8.58% 9.50% 13.00%

Leasing option #3 $162,350 $162,350 $162,350 $162,350

NPV of leasing option #3 $476,156 $457,515 $682,598 $645,255
IRR of lease 6.72% 6.72% 10.91% 10.91%
Lease advantage over borrowing ($6,883) $27,031 ($18,797) $25,997
Faulhaber Gmbh 170,000 170,000 170,000 170,000
NPV of loan 484,376 501,993 686,679 697,207
NPV of lease 498,593 479,073 714,762 675,660
IRR of lease 7.13% 7.13% 11.42% 11.42%
Lease advantage over borrowing ($14,217) $22,920 ($28,082) $21,546

Honshu Heavy Industries 163,000 163,000 163,000 163,000

NPV of loan 438,036 458,436 624,641 640,997
NPV of lease 478,063 459,346 685,330 647,839
IRR of lease 8.64% 8.64% 13.48% 13.48%
Lease advantage over borrowing ($40,027) ($911) ($60,689) ($6,842)
Conclusion

Pick Option 3
Operating lease
Option 1 and 2 do not give Primus a positive NPV
Option 3 and 4 give Primus a positive NPV
However, with option 4 there would not be a net
advantage to leasing between Primus and Honshu Heavy
Industries, so we would risk potentially losing this
business.