a project being considered is a semiautomated packing unti that would cost $390,

ID: 2757517 • Letter: A

Question

a project being considered is a semiautomated packing unti that would cost $390,000 including installation. This project would use the 7 year MACRS schedule with no residual value. Wrapping machine was purcashed four years ago for $90,000 the wrapper has a current market value of $20,000. The packing unit will result in a saving in operating expenses of $90,000 per year. These expenses will increase by 5% per year over the 10 year economic life. Given partial balance sheet: Current liabilities= $1,000,000; Mortage Bond= $5,143,000; Common Stock(500,000 shares)= $500,000; Contributed capital in excess of par= 2,000,000; Retained earnings= $8,640,210; total liablities and common equity= $17,283,210 cost of capital= 11.27% What is the NPV of the packing machine?

Explanation / Answer

MACRS stands for modified accelerated cost recovery system. It is the current system allowed in the United States to calculate tax deductions on account of depreciation for depreciable assets (other than intangible assets). IRS Form 4562 is used to claim depreciation deduction.

It allows a larger deduction in early years and lower deductions in later years when compared to the straight-line method.

There are two sub-system of MACRS: the general depreciation system (GDS) and alternate depreciation system (ADS). GDS is the most relevant and is used for most assets.

Formulas

Where,
A is 100% or 150% or 200%.

Useful Life

However, where the depreciation calculated using the above formula is lower than depreciation under straight line method, the straight line depreciation for the previous year is taken as the relevant depreciation deduction for the rest of the recovery period.

Alternatively, tables provided by IRS can be used. Following table (taken from IRS website) shows rates for 200% declining balance method using half-year convention:

Steps in Calculation

Calculating depreciation under MACRS involves the following steps:

NPV for new machinery

Depreciation in Subsequent Years = (Cost Depreciation in Previous Years) × 1 × A Recovery Period

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a project being considered is a semiautomated packing unti that would cost $390,

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