Question

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Your company is considering a project that would require purchasing 7.9 million worth of new equipment....

Your company is considering a project that would require purchasing 7.9 million worth of new equipment. Determine the present value of the depreciation tax shield associated with this equipment if the firm’s rate is 38%, the appropriate cost of capital is 9%, and the equipment can be depreciated.

A. Straight line over a ten year period with the first deduction starting in the new year. The present value of the depreciation tax shield associated with this equipment is $ million (Round the final answer to three decimal places. Round all intermediate values to four decimal places as needed)

B. Straight line ove a five year period, with the first deduction starting in one year. The present value of the depreciation taxshield associated with the equipment is $ million. (Round the final answer to three decimal places. (Round all intermediate values to four decimal places as needed)

C. Using MACRS depreciation with a five year recovery period and starting immediately. The present value of the depreciation tax shield associated with the equipment is $ million. (Round the final answer to three decimal places. Round all intermediate values to fourdecimal places as needed)

D. Fully as an immediate deduction. The present value of the depreciation tax shield is $ million (Round the final answer to three decimal places. Round all intermediate values to four decimal places as needed)

Expert Solution

Depreciation tax shield each year = depreciation * tax rate

present value of Year X depreciation tax shield = depreciation tax shield / (1 + 9%)^X

a] Yearly depreciation = $7.9 million / 10 = $790,000

PV of depreciation tax shield = $1.927 million

b]

Yearly depreciation = $7.9 million / 5 = $790,000

PV of depreciation tax shield = $2.335 million

c]

PV of depreciation tax shield = $2.377 million

d]

As the depreciation is immediately deductible, value of depreciation tax shield does not need to be discounted to find it's present value (discounting period is zero)

present value of depreciation tax shield = depreciation tax shield = $7.9 million * 38% = $3.002 million

jeff jeffy answered 8 months ago

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