Question

You are evaluating a potential investment in equipment. The equipment's basic price is $184,000, and shipping costs will be $3,700. It will cost another $23,900 to modify it for special use by your firm, and an additional $12,900 to install it. The equipment falls in the MACRS 3-year class that allows depreciation of 33% the first year, 45% the second year, 15% the third year, and 7% the fourth year. You expect to sell the equipment for 29,200 at the end of three years. The equipment is expected to generate revenues of $168,000 per year with annual operating costs of $82,000. The firm's marginal tax rate is 45.0%. What is the value of the after-tax cash flow associated with the sale of the equipment?

Answer 1

Total initial investment= purchase price + shipping cost + modifications cost + installation cost

= 184,000 + 3,700 + 23,900 + 12,900

= 224,500

After tax value of cash flow associated with sale of equipment

= Salvage value - tax ( salvage value - book value)

= 29,200 - 0.45 ( 29,200 - 15,715)

= 29,200 - 0.45 ( 13,485)

= 29,200 - 6,068.25

= $23,131.75

Note:

Depreciation in year 1 = 224,500 × 33%= 74,085

Depreciation in year 2= 224,500 × 45%= 101,025

Depreciation in year 3= 224,500 × 15%= 33,675

Total depreciation after 3 years = 208,785

Book value after 3 years = 224,500- 208,785 = 15,715