Question

Perez Electronics is considering investing in manufacturing equipment expected to cost $310,000. The equipment has an estimated useful life of four years and a salvage value of $ 18,000. It is expected to produce incremental cash revenues of $155,000 per year. Perez has an effective income tax rate of 40 percent and a desired rate of return of 10 percent. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.)

   

Required

Determine the net present value and the present value index of the investment, assuming that Perez uses straight-line depreciation for financial and income tax reporting.

Determine the net present value and the present value index of the investment, assuming that Perez uses double-declining-balance depreciation for financial and income tax reporting.

Determine the payback period and unadjusted rate of return (use average investment), assuming that Perez uses straight-line depreciation.

Determine the payback period and unadjusted rate of return (use average investment), assuming that Perez uses double-declining-balance depreciation. (Note: Use average annual cash flow when computing the payback period and average annual income when determining the unadjusted rate of return.)

Determine the net present value and the present value index of the investment, assuming that Harper uses straight-line depreciation and double-declining-balance for financial and income tax reporting. (Round your answers for "Net present value" to the nearest whole dollar amount and your answers for "Present value index" to 2 decimal places.)

	Net present value Present value index a. b.

Determine the payback period and unadjusted rate of return (use average investment), assuming that Harper uses straight-line depreciation and double-declining-balance depreciation. (Note: Use average annual cash flow when computing the payback period and average annual income when determining the unadjusted rate of return.) (Round your answers to 2 decimal places.)

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	Payback period Unadjusted rate of return d. years % e. years %

Answer 1

Answer 1.)

Year	Cash revenue	Depreciation	EBT	Tax (40%)	EAT	Cash flows (EAT+ DEP.)
1	155,000	73000	82000	32800	49200	122200
2	155,000	73000	82000	32800	49200	122200
3	155,000	73000	82000	32800	49200	122200
4	155,000	73000	82000	32800	49200	122200
	Straight line Deprication = 310000-18000/4 =73000
Year	Cash flow	Present value @ 10	Present value of cash flow
1	122200	0.91	111079.80
2	122200	0.83	100937.20
3	122200	0.75	91761.09
4	122200	0.68	83419.17
		Total P.V.	387197.26
		Cost of Project	310,000
		NPV	77197.26

Answer 2)

1^st Year   -     Straight-line Depreciation Rate = 1 ÷ 4 = 0.25 = 25%
Declining Balance Rate = 2 × 25% = 50%
Depreciation = 50% × $310,000 = $155,000

2^nd Year   Declining Balance Rate = 50%
Book Value = Cost ? Accumulated Depreciation = $310,000 ? $155,000 = $155000
Depreciation = 50% × $155,000 = $77500

^3rd Year   Declining Balance Rate = 50%
Book Value = Cost ? Accumulated Depreciation = $$155,000 ? $77500= $77500
Depreciation = 50% × $77500= $38750

^4th Year   Declining Balance Rate = 50%
Book Value = Cost ? Accumulated Depreciation = $ 77500? $ 38750= $38750
Depreciation = 50% × $38750= $19375

Year	Cash revenue	Depreciation	EBT	Tax (40%)	EAT	Cash flows (EAT+ DEP.)
1	155,000	155,000	0	32800	-32800	40200
2	155,000	77500	77500	32800	44700	117700
3	155,000	38750	116250	32800	83450	156450
4	155,000	19375	135625	32800	102825	175825
Year	Cash flow	Present value @ 10	Present value of cash flow
1	40200	0.91	36541.80
2	117700	0.83	97220.20
3	156450	0.75	117479.73
4	175825	0.68	120025.99
		Total P.V.	371267.72
		Cost of Project	310,000
		NPV	61267.72

Answer 3) Year Cash revenue Depreciation EBT Tax (40%) EAT Cash flows (EAT+ DEP.) 1 155,000 73000 82000 32800 49200 122200 2 155,000 73000 82000 32800 49200 122200 3 155,000 73000 82000 32800 49200 122200 4 155,000 73000 82000 32800 49200 122200
Payback period for 2 years = 122200+122200 = 244400 Cash flow for the 3rd year = 122200 Payback period = 2 years +310000-244400/122200*12= 6.4 months Total payback period 2 years and 6.4 mn. Answer 4)   Year Cash revenue Depreciation EBT Tax (40%) EAT Cash flows (EAT+ DEP.) 1 155,000 155,000 0 32800 -32800 40200 2 155,000 77500 77500 32800 44700 117700 3 155,000 38750 116250 32800 83450 156450 4 155,000 19375 135625 32800 102825 175825 Payback period for 2 years = 40200+117700= 157900 Cash flow for the 3rd year = 156450 Payback period = 2 years + 310000-157900/156450*12= 11.7 months Total payback period is 2 years and 11.7 mn