Question

your highly successful software company is considering adding a new software title to your list. If...

your highly successful software company is considering adding a new software title to your list. If you add the new product, it will use the full capacity of your full duplicating machines that you planned on using for your flagship product, "Battlin Bobby". You had previously planned on using the unused capacity to start selling "BB" on the west coast in two years. Eventually, you would have had to purchase additional duplicating machines 10 years from today,but since oru new product will use the extra capacity, this will rquire moving this puchase up to 2 years from today. If the new machine will cost $100,000 and will depreicate stright-line over a five year period to zero salvage value, your marginal tax rate is 32 percent, and your cost of capital is 12 percent, what is the opportunity cost associated with using the unused capacity for the new product?

Homework Answers

Answer #1

Opportunity cost is the difference in PV terms in having to pay this in two years versus 10 years:

-78,165.36 * (1/1.12)2 – (-78,165.36*(1/1.12)10 = -37,145.79

1

2

3

4

5

6

Depreciation

10,000

20,000

20,000

20,000

20,000

10,000

  • Tax rate

*.32

*.32

*.32

*.32

*.32

*.32

Tax shield from depreciation

3200

6400

6400

6400

6400

3200

PV of tax shield

2875.14

5102.04

4555.39

4067.32

3631.53

1621.22

Sum of PV of tax shields

21,834.64

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