Your firm is considering a project that would require purchasing $7.2 million wo

Question

Your firm is considering a project that would require purchasing

$7.2

million worth of new equipment. Determine the present value of the depreciation tax shield associated with this equipment if the? firm's tax rate is

40%?,

the appropriate cost of capital is

7%?,

and the equipment can be? depreciated:

a.? Straight-line over a? ten-year period, with the first deduction starting in one year.

b.? Straight-line over a? five-year period, with the first deduction starting in one year.

c. Using MACRS depreciation with a? five-year recovery period and starting immediately.

d. Fully as an immediate deduction.

a.? Straight-line over a? ten-year period, with the first deduction starting in one year.

Explanation / Answer

Option A

(PV)

Option B

(PV)

Option C

(PV)

Option D

(PV)

Depreciation Tax shield (Tc * Dep) PV (DTS) Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10 PVF 1 0.934579 0.873439 0.816298 0.762895 0.712986 0.666342 0.62275 0.582009 0.543934 0.508349 Option A 0.288 0.3 0.3 0.3 0.3 0.3 0.3 0.3 0.3 0.3

Option A

(PV)

2.0959 0.269159 0.262032 0.244889 0.228869 0.213896 0.199903 0.186825 0.174603 0.16318 0.152505 Option B 0.576 0.576 0.576 0.576 0.576

Option B

(PV)

2.3617 0.538318 0.503101 0.470188 0.439428 0.41068 MCARS Table 20% 32% 19.2% 11.52% 11.52% 5.76% Option C 0.6 0.96 0.576 0.3456 0.3456 0.1728

Option C

(PV)

2.6693 0.6 0.897196 0.503101 0.282113 0.263657 0.123204 Option D 3

Option D

(PV)

3 3

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