Question

Your firm is considering a project that would require purchasing $7.9 million worth of new equipment....

Your firm is considering a project that would require purchasing $7.9 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 33%?, the appropriate cost of capital is 8 %?, 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.

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Answer #1

a)

Year Dep Tax shield(.33*.79) Discount factor PV
1 .79 .26 .926 .24
2 .79 .26 .857 .22
3 .79 .26 .794 .21
4 .79 .26 .735 .19
5 .79 .26 .681 .18
6 .79 .26 .630 .16
7 .79 .26 .583 .15
8 .79 .26 .540 .14
9 .79 .26 .500 .13
10 .79 .26 .463 .12

Total NPV=1.74

b)

Year Dep Tax shield(.33*.79) Discount factor PV
1 1.58 .52 .926 .48
2 1.58 .52 .857 .45
3 1.58 .52 .794 .41
4 1.58 .52 .735 .38
5 1.58 .52 .681 .35

Total NPV=2.07

c)MACRS percent dep PV

Year 0 20% .52 .52

Year 1 32% .83 .77

Year 2 19.20% .50 .43

Year 3 11.52% .30 .24

Year 4 11.52% .30 .22

Year 5 5.76% .15 .10

Total 2.28

d) 7.9 *.33=2.61

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