Question

Universal Electronics is considering the purchase of manufacturing equipment with a 10-year midpoint in its asset depreciation range (ADR). Carefully refer to Table 12–11 to determine in what depreciation category the asset falls. (Hint: It is not 10 years.) The asset will cost $130,000, and it will produce earnings before depreciation and taxes of $36,000 per year for three years, and then $18,000 a year for seven more years. The firm has a tax rate of 25 percent. Assume the cost of capital is 10 percent. In doing your analysis, if you have years in which there is no depreciation, merely enter a zero for depreciation. Use Table 12–12. Use Appendix B for an approximate answer but calculate your final answer using the formula and financial calculator methods.

a. Calculate the net present value. (Do not round intermediate calculations and round your answer to 2 decimal places.)

b. Based on the net present value, should Universal Electronics purchase the asset?

• Yes

• No

Answer 1

The manufacturing equipment has 10 year midpoint ADR, so depreciation will be written off based on 7year MACRS because this asset-category has useful life of 10 years or more than 10 years

So Depreciation will not be on straight-line basis.

Now to calculate NPV we need Cash flows.. the formula used is

EBT= EBITDA- Depreciation

EAT= EBT- Tax

CFAT= EAT + Depreciation