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A manufacturing firm purchases some machinery in January for $1,000,000. The machinery has an estimated life...

  1. A manufacturing firm purchases some machinery in January for $1,000,000. The machinery has an estimated life of 5 years, with an estimated salvage value of $200,000. The use of this machinery should generate $400,000 before-tax profit each year over its 5-year useful life. Calculate the before-tax and after-tax rates of return if the company uses declining balance at 150% to depreciate their assets. Also present a cash flow diagram.

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Answer #1

Depreciation under the declining balance at 150% and before tax and after tax rates of return:

Period Calculation of yearly depreciation amount Book value Net book value at the end of the year Before tax profit Before tax net income Return on opening Book value After tax net income (tax = 30%)
Year 1 (1000000-200000)*30% = 240000 1000000-240000 = 760000 1000000-200000-240000 =560000 400000 160000 160000/1000000 = 16% 112000/1000000 =11.20%
2 560000*30% = 168000 592000 392000 400000 232000 232000/760000 = 30.53% 162400/760000 = 21.37%
3 392000*30%=117600 474400 274400 400000 282400 47.70% 33.39%
4 274400*30%=82320 392080 192080 400000 317680 66.96% 46.87%
5 192080*30%=57624 334456 134456 400000 342376 87.32% 61.12%
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