Question

Check My Work

Click here to read the eBook: Analysis of an Expansion Project DEPRECIATION METHODS Charlene is evaluating a capital budgeting project that should last for 4 years. The project requires $950,000 of equipment. She is unsure what depreciation method to use in her analysis, straight-line or the 3-year MACRS accelerated method. Under straight-line depreciation, the cost of the equipment would be depreciated evenly over its 4-year life (ignore the half-year convention for the straight-line method). The applicable MACRS depreciation rates are 33%, 45%, 15%, and 7%. The company's WACC is 12%, and its tax rate is 35%. What would the depreciation expense be each year under each method? Round your answers to the nearest cent. Year Scenario 1 (Straight-Line) Scenario 2 (MACRS) 1 $ $ 2 3 4 Which depreciation method would produce the higher NPV?

How much higher would the NPV be under the preferred method? Round your answer to two decimal places. Do not round your intermediate calculations.
$

Answer 1

Cost	950,000
MACARS
Year	Depreciation	Depreciation	Tax benefit @ 35%	PV of these Benefits @ 12%	PV
1	33.00%	313,500	109,725	0.893	97,969
2	45.00%	427,500	149,625	0.797	119,280
3	15.00%	142,500	49,875	0.712	35,500
4	7.00%	66,500	23,275	0.636	14,792
				NPV	267,541
Cost	950,000
Dep tax saving	(267,541)
Net Cost	682,459
SLM
Year	Depreciation	Depreciation	Tax benefit @ 35%	PV of these Benefits @ 12%	PV
1	25.00%	237,500	83,125	0.893	74,219
2	25.00%	237,500	83,125	0.797	66,267
3	25.00%	237,500	83,125	0.712	59,167
4	25.00%	237,500	83,125	0.636	52,827
				NPV	252,480
Cost	950,000
Dep tax saving	(252,480)
Net Cost	697,520
As we can see net cost is lower in MACARS and hence higer NPV will be given by MACARS method
Difference in NPV	697520-682459
Difference in NPV	15,061