Finane Homework

Homework 5 (95 pts)

1. (15 pts) A profitable company making earth-moving equipment is

considering an investment of $100,000 on equipment, which will have a 5-year

useful life and, no salvage value. If money is worth 10%, which one of the

following three methods of depreciation would be preferable?

a. Straight - line method

b. SOYD method

c. MACRS method

2. (10 pts) The initial cost of the office equipment is $100,000 has an

estimated actual life of 6 years, with an estimated salvage value of $10000.

Prepare tables listing the annual costs of depreciation and the book value at

the end of each 6 years, based on straight-line, sum-of-years’-digits, and

MACRS depreciation. Use spreadsheet functions for the depreciation methods.

3. (10 pts) A company bought a small vessel for $550,000; it is to be

depreciated by MACRS depreciation. When requirements changed suddenly.

The chemical company leased the vessel to an oil company for 6 years at

$100,000 per year. The lease also provided that the oil company could buy the

vessel at the end of 6 years for $350,000. At the end of the 6 years, the oil

company exercised its option and bought the vessel. The chemical company

has a 34% combined incremental tax rate. Compute its after-tax rate of return

on the vessel.

Do this problem assuming that a $250,000 Section 179 deduction applies.

Please use Excel to provide your answer.

4. (10 pts) A machine was installed 5 years ago. Its market value is now

$15,000 and is expected to decline by 10%/year over the next five years. It is

projected that this machine will be operational for another five years, after which

time it will be scrapped (no salvage value). This year, its annual costs are

estimated as $1500, but will increase by $1000/year thereafter.

A new machine is now available for $20,000. It has no annual costs over its

five-year minimum cost life (i.e., economic life). Using an 8% MARR, when (if

at all) should the existing machine be replaced with the new machine?

5. (10pts) Calculate by hand first and use excel) An injection molding machine

has a first cost of $1,050,000 and a salvage value of $225,000 whenever the

machine is sold. The yearly maintenance and operating costs are $235,000

with a gradient of $75,000. The MARR is 10%. What is the economic life?

6. (15 pts) The Quick Manufacturing Co., a large profitable corporation, is

considering the replacement of a production machine tool (the defender). A

new machine (the challenger) would cost $15,000, have a 5-year useful life and

be in the 5-year MACRS property class. The challenger will have a $0 salvage

value at the end of five years. For tax purposes, MACRS depreciation would be

used. The defender was purchased four years ago at a cost of $9,000. The

defender has been depreciated using SOYD depreciation using a 9-year life

and a $0 salvage value. The defender can be sold for $5,000 at the present

time, or it can be used "as is" for five more years. If the defender is used for five

more years, its salvage value will be $0. The challenger will have an annual

operating cost that is $2,500 less than that of the defender. Determine the

present worth of the yearly after-tax costs of owning the defender. Use an after-

tax minimum attractive rate of return of 12% and a combined state and federal

income tax rate of 45%.

7. (15 pts) Five years ago, Mary purchased some new automated packing

equipment having a first cost of $125,000 and a MACRS class life of 7 years.

The annual costs for operating, maintenance, and insurance, as well as market

value data for each year of the equipment’s 10-year useful life are as follows.

Year

n

Annual Costs in Year n for Market

Value in

Year n

Operating Maintenance Insurance

1 $16,000 $5,000 $17,000 $80,000

2 20,000 10,000 16,000 78,000

3 24,000 15,000 15,000 76,000

4 28,000 20,000 14,000 74,000

5 32,000 25,000 12,000 72,000

6 36,000 30,000 11,000 70,000

7 40,000 35,000 10,000 68,000

8 44,000 40,000 10,000 66,000

9 48,000 45,000 10,000 64,000

10 52,000 50,000 10,000 62,000

Now Mary is looking at the remaining 5 years of her investment in this

equipment, which she had initially evaluated on the basis of an after-tax MARR

of 25% and a tax rate of 35%. Assume that the replacement repeatability

assumption are valid.

Determine the after-tax lowest EUAC of the equipment. Please use EXCEL

to provide your answer.

8. (10 pts) A hospital would replace five personnel that currently cover three

shifts per day. 365 days per year. Each person earns $35,000 per year.

Company-paid benefits and overhead are 45% of wages. Money costs 8% after

income taxes. Combined federal and state income taxes are 40%. Annual

property taxes and maintenance are 2.5 and 4% of investment, respectively.

Depreciation is 15-year straight line. Disregarding inflation, how large an

investment in the automation project can be economically justified?