Problems 391- Interest payments are tax deductible (i.e.,
they re,duce taxable income and thus taxes
paid). Principal payments are not. Sepa-
rate each $25,240 payment into interest and
principal portions. - The Year-Ocash flow is -$20,000 (100,000
- 80,000).
- After-tax cash flow will be before-tax
cash flow - interest payment - principal
payment - taxes.
12-23 A project will require the investment of $108,000 in
equipment (sum-of-years' -digits depreciation with a
depreciable life of 8 years and zero salvage value)
and $25,000 in raw materials (not depreciable). The
annual project income after all expenses except de-
preciation have been paid is projected to be $24,000.
At the end of 8 years the project will be discontinued
and the $25,000 investment in raw materials will be
recovered.
Assume a 34% income tax rate for this corpo-
ration. The corporation wants a 15% after-tax rate of
return on its investments. Determine by present worth
analysis whether this project should be undertaken.
12-24 A profitable incorporated business is considering an
investment in equipment having the following before-
tax cash flow. The equipment will be depreciated by
double declining balance depreciation with conver-
sion, if appropriate, to straight-line depreciation at
the preferred time. For depreciation purposes a $700
salvage value at the end of 6 years is assumed. But
the actual value is thought to be $1000 and it is this
sum that is shown in the before-tax cash flow.
Yearo 1 2 3 4 5 6
Before-Tax Cash Flow
$12,000
1,727
2,414
2,872
3,177
3,358
1,997
1,000Salvage valueIf the firm wants a 9% after-tax rate of return and
its incremental income tax rate is 34%, determineby
annual cash flow analysis whether the investmentis
desirable.12-25A salad oil bottlingplant can either purchasecaps for
the glass bottles at 5 cents each or install $500,000
worth of plastic molding equipmentand manufacture
-----the caps at the plant. The manufacturing engineer es-
timates the material, labor, and other costs would be
3 cents per cap.
(a)If 12 million caps per year are needed and the
molding equipment is installed, what is the pay-
back period?
(b)The plastic molding equipment would be depre-.
ciated by straight-line depreciation using a 5-year
useful life and no salvage value. Assuming a 40%
income tax rate, what is the after-tax payback pe-
riod, and what is the after-tax rate of return?
12-26 A firm has invested $14,000 in machinery with a 7-
year useful life. The machinery will have no salvage
value, as the cost to remove it will equal its scrap
value. The uniform annual benefits from the machin-
ery are $3600. For a 47% income tax rate, and sum-of-
years' -digits depreciation, compute the after-tax rat~
of return.
12-27 A firm manufactures padded shipping bags. One
hundred bags are packed in a cardboard carton. At
present, machine operators fill the cardboard cartons
by eye: that is, when the cardboard carton looks full,
it is assumed to contain 100 shipping bags. Actual
inspection reveals that the cardboard carton may con-
tain anywhere from 98 to 123 bags with an average
quantity of 105.5 bags.
The management has never received complaints
from its customers about cartons containing fewer
than 100 bags. Nevertheless, management realizes
that they are giving away 51/2% of their output by
overfilling the cartons. One solution would be to count
the shipping bags to ensure that 100 are packed in each
carton. Another solution would be to weigh each filled
shipping carton. Underweight cartons would have ad-
ditional shipping bags added, and ov~ht cartons
would have some shipping bags removed. This would
not be a perfect solution because the actual weight of
the shipping bags varies slightly. If the weighing is
done, it is believed that the average quantity of bags
per carton could be reduced to 102, with almost no
cartons containing fewer than 100 bags.
The weighing equipment would cost $18,600.
The equipment would be depreciated by straight-line
depreciation using a lO-year depreciable life and a
$3600 salvage value at the end of 10 years. The
$18,600 worth of equipment qualifies for a 10% in-
vestment tax credit. One person, hired at a cost of
$16,000 per year, would be required to operate the
weighing equipment and to add or remove padded,.
l-'~~h.