Question

Hercules Exercise Equipment Co. purchased a computerized measuring device two years ago for $94,000. The equipment falls into the five-year category for MACRS depreciation and can currently be sold for $42,800. A new piece of equipment will cost $310,000. It also falls into the five-year category for MACRS depreciation. Assume the new equipment would provide the following stream of added cost savings for the next six years. Use Table 12-12. Use Appendix B for an approximate answer but calculate your final answer using the formula and financial calculator methods. Year Cash Savings S 69.000 59,000 57.000 55,000 52,000 41.000 The firm's tax rate is 35 percent and the cost of capital is 10 percent. a. What is the book value of the old equipment? (Do not round intermediate calculations and round your answer to the nearest whole dollar.) Book valueſ | b. What is the tax loss on the sale of the old equipment? (Do not round Intermediate calculations and round your answer to the nearest whole dollar.) Tax loss Tak lose I

Answer 1

a) Book value Depreciation base x (1 - Depreciation factors) $ 45,120 =94000*(1-0.2-0.32) b) Tax loss Book value - Sales price $ 2,320 =45120-42800 c) Tax benefit Tax loss x Tax rate $ 812 =2320*35% d) Cash inflow Sales price + Tax benefit $ 43,612 =42800+812 e) Net cost Price of new equipment - Cash inflow $266,388 -310000-43612

f) Year Depreciation Base % Depreciation Annual depreciation 1 $ 310,000 0.200 $ 62,000 - 2 $ 310,000 0.320 $ 99,200 3 $ 310,000 0.192 $ 59,520 4 $ 310,000 0.115 $ 35,650 5 $ 310,000 0.115 $ 35,650 6 $ 310,000 0.058 $ 17,980 g) Year Depreciation Base % Depreciation Annual depreciation 1 $ 94,000 0.192 $ 18,048 - 2 $ 94,000 0.115 $ 10,810 3 $ 94,000 0.115 $ 10,810 94,000 0.058 $ 5,452 4 $

h) Depreciation on Year New Equipment 1 $ 62,000 2 $ 99,200 3 $ 59,520 4 $ 35,650 5 $ 35,650 6 $ 17,980 Depreciation on Incremental Tax Shield Old Equipment Depreciation Tax Rate Benefits $ 18,048 $ 43,952 0.35 $ 15,383 $ 10,810 $ 88,390 0.35 $ 30,937 $ 10,810 $ 48,710 0.35 $ 17,049 $ 5,452 $ 30,198 0.35 $ 10,569 $ 35,650 0.35 $ 12,478 $ 17,980 0.35 $ 6,293 Year Savings 64,000 54,000 52,000 50,000 47,000 36,000 Aftertax (1-Tax rate) Savings 0.65 $ 41,600 0.65 $ 35,100 0.65 $ 33,800 0.65 $ 32,500 0.65 $ 30,550 0.65 $ 23,400 1 $ Year Tax Shield Benefits 15,383 $ 30,937 $ 17,049 $ 10,569 $ 5 $ 12,478 $ 6 $ 6,293 $ Aftertax Total annual Savings benefits 41,600 $ 56,983 35,100 $ 66,037 33,800 $ 50,849 32,500 $ 43,069 30,550 $ 43,028 23,400 $ 29,693 j-2) Present value $ 211,894 K-1) Net present value -$54,494 K-2) No

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