rporation is considering a new project requiring a S30,000 investment in an asse

Question

rporation is considering a new project requiring a S30,000 investment in an asset having no sal- vage 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. Problem 25-3B Computation of cash flows and net p values with alternative depreciation methods P3 resent Straight-Line MACRS Depreciation Depreciation Year 1.. Year 2 $3,000 6,000 6,000 6,000 6,000 3,000 30,000 6,000 9,600 5,760 3.456 3,456 1,728 $30,000 Year 4 Year 5.... Year 6 The modified accelerated cost recovery sytem (MACRS) for depreciation is discussed in Chapter 10 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 de- preciation 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 depre- ciation 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.)

Explanation / Answer

Operating Cash Flow (Straight Line Depreciation) Year Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Investment $        (30,000.00) Earnings $              12,000.00 $                    12,000.00 $      12,000.00 $    12,000.00 $ 12,000.00 $        12,000.00 Less: Depreciation $                3,000.00 $                       6,000.00 $        6,000.00 $      6,000.00 $    6,000.00 $          3,000.00 Net Income before tax $                9,000.00 $                       6,000.00 $        6,000.00 $      6,000.00 $    6,000.00 $          9,000.00 Income Tax @40% $                3,600.00 $                       2,400.00 $        2,400.00 $      2,400.00 $    2,400.00 $          3,600.00 Profit after Tax $                5,400.00 $                       3,600.00 $        3,600.00 $      3,600.00 $    3,600.00 $          5,400.00 Operating cash flow=(A) $        (30,000.00) $                8,400.00 $                       9,600.00 $        9,600.00 $      9,600.00 $    9,600.00 $          8,400.00 Working: Operating Cash Flow=Profit after tax+Depreciation Operating Cash Flow (MACRS Depreciation) Year Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Investment $        (30,000.00) Earnings $              12,000.00 $                    12,000.00 $      12,000.00 $    12,000.00 $ 12,000.00 $        12,000.00 Less: Depreciation $                6,000.00 $                       9,600.00 $        5,760.00 $      3,456.00 $    3,456.00 $          1,728.00 Net Income before tax $                6,000.00 $                       2,400.00 $        6,240.00 $      8,544.00 $    8,544.00 $        10,272.00 Income Tax @40% $                2,400.00 $                          960.00 $        2,496.00 $      3,417.60 $    3,417.60 $          4,108.80 Profit after Tax $                3,600.00 $                       1,440.00 $        3,744.00 $      5,126.40 $    5,126.40 $          6,163.20 Operating cash flow=(A) $        (30,000.00) $                9,600.00 $                    11,040.00 $        9,504.00 $      8,582.40 $    8,582.40 $          7,891.20

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