Question

Charlene is evaluating a capital budgeting project that should last for 4 years. The project requires $975,000 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 10%, and its tax rate is 30%. a. 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 b. Which depreciation method would produce the higher NPV? -Select- 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

a.

Year	Straight Line	MACRS
1	243750 [ 975000/4]	321750	[975000*33%]
2	243750	438750	[975000*45%]
3	243750	146250	[975000*15%]
4	243750	68250	[975000*7%]

b. MACRS

c. NPV = - 11683. 22 [ 743203.5892-731520.3709]

Year	Straight Line	Tax shield (30%)	PV Factor @10%	Present value of tax shield
		(a)	(b)	(a) *(b)
1	243750	73125	0.909090909	66477.27273
2	243750	73125	0.826446281	60433.8843
3	243750	73125	0.751314801	54939.89482
4	243750	73125	0.683013455	49945.35892
Total				231796.4108
Less: Initial Investment				975000
NPV				-743203.5892

Year	MACRS	Tax shield (30%)	PV Factor @10%	Present value of tax shield
		(a)	(b)	(a) *(b)
1	321750	96525	0.909090909	87750
2	438750	131625	0.826446281	108780.9917
3	146250	43875	0.751314801	32963.93689
4	68250	20475	0.683013455	13984.7005
Total				243479.6291
Less: Initial Investment				975000
NPV				-731520.3709