Q3DQ Identify four reasons that capit... [FREE SOLUTION] (2024)

Grossman Corporation is considering a new project requiring a \(30,000 investment in an asset having no salvage value. The project would produce \)12,000 of pretax income before depreciation at the end of each of the next six years. The company’s income tax rate is 40%. In compiling its tax return and computing its income tax payments, the company can choose between two alternative depreciation schedules as shown in the table.

Straight-Line MACRS

Depreciation Depreciation*

Year 1 . . . . . . . . . . \( 3,000 \)6,000

Year 2 . . . . . . . . . . 6,000 9,600

Year 3 . . . . . . . . . . 6,000 5,760

Year 4 . . . . . . . . . . 6,000 3,456

Year 5 . . . . . . . . . . 6,000 3,456

Year 6 . . . . . . . . . . 2,000 1,728

Totals . . . . . . . . . . . \(30,000 \)30,000

Required

1. Prepare a five-column table that reports amounts (assuming use of straight-line depreciation) for each of the following items for each of the six years: (a) pretax income before depreciation, (b) straight-line depreciation expense, (c) taxable income, (d) income taxes, and (e) net cash flow. Net cash flow equals the amount of income before depreciation minus the income taxes. (Round answers to the nearest dollar.)

2. Prepare a five-column table that reports amounts (assuming use of MACRS depreciation) for each of the following items for each of the six years: (a) pretax income before depreciation, (b) MACRS depreciation expense, (c) taxable income, (d) income taxes, and (e) net cash flow. Net cash flow equals the amount of income before depreciation minus the income taxes. (Round answers to the nearest dollar.)

3. Compute the net present value of the investment if straight-line depreciation is used. Use 10% as the discount rate. (Round the net present value to the nearest dollar.)

4. Compute the net present value of the investment if MACRS depreciation is used. Use 10% as the discount rate. (Round the net present value to the nearest dollar.)

Analysis Component

5. Explain why the MACRS depreciation method increases the net present value of this project.

Following is information on two alternative investments being considered by Tiger Co. The company requires a 4% return from its investments.

Project X1 Project X2

Initial investment . . . . . . . . . . . . . . . . . . . . . . . . . \((80,000) \)(120,000)

Expected net cash flows in year:

1........................ 25,000 60,000

2........................ 35,500 50,000

3........................ 60,500 40,000

Compute each project’s (a) net present value and

(b) profitability index. (Round present value calculations to the nearest dollar and round the profitability index to two decimal places.) If the company can choose only one project, which should it choose? Explain.

Aster Company is considering an investment in technology to improve its operations. The investment will require an initial outlay of \(800,000 and yield the following expected cash flows. Management requires investments to have a payback period of two years, and it requires a 10% return on its investments.

Period Cash Flow

1 . . . . . . . . . . . . \)300,000

2 . . . . . . . . . . . . 350,000

3 . . . . . . . . . . . . 400,000

4 . . . . . . . . . . . . 450,000

Required

1. Determine the payback period for this investment.

2. Determine the break-even time for this investment.

3. Determine the net present value for this investment.

Analysis Component

4. Should management invest in this project? Explain.

Compute the payback period for each of these two separate investments (round the payback period to two decimals):

a. A new operating system for an existing machine is expected to cost \(520,000 and have a useful life of six years. The system yields an incremental after-tax income of \)150,000 each year after deducting its straight-line depreciation. The predicted salvage value of the system is \(10,000.

b. A machine costs \)380,000, has a \(20,000 salvage value, is expected to last eight years, and will generate an after-tax income of \)60,000 per year after straight-line depreciation.