Calculating initial investment Vastine Medical, Inc., is considering replacing i

Question

Calculating initial investment Vastine Medical, Inc., is considering replacing its existing computer system, which was purchased 3 years ago at a cost of $316,000 The system can be sold today for $209,000 It is being depreciated using MACRS and a 5-year recovery period (see the table ) A new computer systen will cost $491,000 to purchase and install. Replacement of the computer system would not involve any change in net working capital. Assume a 40% tax rate on ordinary income and capital gain a. Calculate the book value ot the existingcomputer system. b. Calculate the after-tax proceeds of its sale for $209,000 c. Calculate the initial investment associated with the replacement project. First Four Property Classes Rounded Depreciation Percentages by Recovery Year Using MACRS for Percentage by recovery year a. The remaining book value is S (Round to the nearest dollar)R b. The after-tax proceeds will be SD (Round to the nearest dollar ) c. The initial investment will be (Round to the nearest dollar.) 5 years 20% 32% 19% 12% 12% 5% 7 years 14% 25% 18% 12% 10 years 10% 18% 14% 12% 9% 8% 7% 6% 6% 6% 4% 100% Recovery year 3 years 33% 45% 15% 7% 4 9% 9% 4% ontents in 10 Totals 100% 100% 100% These percentages have been rounded to the nearest whole percent to simplify calculations while retaining realism. To calculate the actual depreciation for tax purposes, be sure to apply the actual unrounded percentages or directly apply double-declining balance (200%) depreciation using the half-year

Explanation / Answer

a.

Purchase price of old computer = $316,000

Depreciation of existing computer in 3 year = 20% + 32% + 19%

= 71%.

So, in three years existing computer is depreciated by 71%.

So, Book value of existing computer = $316,000 × (1 - 71%)

= $91,640.

Book value of existing computer is $91,640.

b.

Sale price of existing computer = $209,000

After tax net proceeds = $91,640 + ($209,000 - $91,640) × (1 - 40%)

= $91,640 + ($117,360 × 60%)

= $91,640 + $70,416

= $162,056.

Net proceed after tax from existing computer is $162,056.

c.

Cost of new computer = $491,000

Net initial Investment = $491,000 - $162,056

= $328,944.

Net Initial Investment is $328,944.

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