XYZ would like to purchase a new machine. It will cost $50,000. Shipping and ins

Question

XYZ would like to purchase a new machine. It will cost $50,000. Shipping and installation charges for the equipment are expected to total $5,000. This equipment will be depreciated using straight line for its 5 year economic life to an estimated salvage value of zero. In order to use this equipment, XYZ estimates it will have to add $7,000 initially to its net working capital. If the machine is purchased, it will replace a machine with a book value of $10,000, the old machine can be sold for $25,000. During the first year of operations, the company expects total revenues to increase by $50,000, and from years 2 to 5 increase by $60,000 per year. The incremental operating expense is expected to be $10,000 in the first year and increase each year by 5%. The marginal tax rate is 40%. Find the yearly depreciation.

Explanation / Answer

Cost of the New Machine    ($)                                             50,000

Shipping and Installation charges ($)                                       5000

Total Cost of the Machinery ($)                                 (50,000 + 5000= 55000)

For the Previous Old Machine it is getting sold on the very day when the new machinery is getting purchased so there will be “no depreciation” on it.

Again the lifetime of the machinery is 5 years, therefore the Depreciation charged n such machinery will be;

Total Cost of Machinery- Salvage Value/ (No. of years)

Again salvage value is zero,

So, depreciation = $55,000 – 0/ 5 = $11000 per year

So yearly depreciation will be $11,000

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