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Problem 24-3A Computation of cash flows and net present values with alternative depreciation methods LO P3...

Problem 24-3A Computation of cash flows and net present values with alternative depreciation methods LO P3 [The following information applies to the questions displayed below.] Manning Corporation is considering a new project requiring a $80,000 investment in test equipment with no salvage value. The project would produce $68,500 of pretax income before depreciation at the end of each of the next six years. The company’s income tax rate is 34%. In compiling its tax return and computing its income tax payments, the company can choose between the two alternative depreciation schedules shown in the table. (PV of $1, FV of $1, PVA of $1, and FVA of $1) (Use MACRS) (Use appropriate factor(s) from the tables provided.) Straight-Line Depreciation MACRS Depreciation* Year 1 $ 8,000 $ 16,000 Year 2 16,000 25,600 Year 3 16,000 15,360 Year 4 16,000 9,216 Year 5 16,000 9,216 Year 6 8,000 4,608 Totals $ 80,000 $ 80,000 * The modified accelerated cost recovery system (MACRS) for depreciation is discussed in Chapter 8. Problem 24-3A Part 4 4. Compute the net present value of the investment if MACRS depreciation is used. Use 6% as the discount rate.

Solutions

Expert Solution

Calculation of Cashflows and Present Value under Straight Line Depreciation method

Year

Pre-tax Cashflow

Tax

Depreciation Tax Sheild

Post tax cashflows

Present Value Factors @ 6%

Present Value

1

    68,500.00

23,290.00

                 2,720.00

    47,930.00

0.9434

           45,216.98

2

  68,500.00

23,290.00

                 5,440.00

    50,650.00

0.8900

           45,078.32

3

    68,500.00

23,290.00

                 5,440.00

    50,650.00

0.8396

           42,526.72

4

    68,500.00

23,290.00

                 5,440.00

    50,650.00

0.7921

           40,119.54

5

    68,500.00

23,290.00

                 5,440.00

    50,650.00

0.7473

           37,848.63

6

    68,500.00

23,290.00

                 2,720.00

    47,930.00

0.7050

           33,788.76

Total

               27,200.00

298,460.00

        244,578.95

Net Present Value = Present Value of Cash Inflows - Initial investment

                               = $ 244,578 - $ 80,000 = $164,578

Calculation of Cashflows and Present Value under MACRS Depreciation method

Year

Pre-tax Cashflow

Tax

Depreciation Tax Sheild

Post tax cashflows

Present Value Factors @ 6%

Present Value

1

    68,500.00

23,290.00

                 5,440.00

    50,650.00

0.9434

           47,783.02

2

    68,500.00

23,290.00

                 8,704.00

    53,914.00

0.8900

           47,983.27

3

    68,500.00

23,290.00

                 5,222.40

    50,432.40

0.8396

           42,344.02

4

    68,500.00

23,290.00

                 3,133.44

    48,343.44

0.7921

           38,292.53

5

   68,500.00

23,290.00

                 3,133.44

    48,343.44

0.7473

           36,125.03

6

    68,500.00

23,290.00

                 1,566.72

    46,776.72

0.7050

           32,975.74

Total

               27,200.00

298,460.00

        245,503.61

Net Present Value = Present Value of Cash Inflows - Initial investment

                               = $ 245,503 - $ 80,000 = $165,503

Calculation of Depreciation tax shield under the two alternatives

Year

Straight line Depreciation

Depreciation Tax Shield @ 34%

MACRS Depreciation

Depreciation Tax Shield @34%

1

                 8,000.00

                   2,720.00

            16,000.00

                 5,440.00

2

               16,000.00

                   5,440.00

            25,600.00

                 8,704.00

3

               16,000.00

                   5,440.00

            15,360.00

                 5,222.40

4

               16,000.00

                   5,440.00

              9,216.00

                 3,133.44

5

               16,000.00

                   5,440.00

              9,216.00

                 3,133.44

6

                 8,000.00

                   2,720.00

              4,608.00

                 1,566.72

Total

               80,000.00

                 27,200.00

            80,000.00

               27,200.00


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