Charlene is evaluating a capital budgeting project that shou

Charlene is evaluating a capital budgeting project that should last for 4 years. The project requires $475,000 of equipment. She is unsure what depreciation method to use in her analysis, straight-line or the 3-year MACRS accelerated method. Under straight-line depreciation, the cost of the equipment would be depreciated evenly over its 4-year life (ignore the hair-year convention for the straight-line method). The applicable MACRS depreciation rates are 33%, 45%, 15%, and 7%. The company\'s WACC is 10%, and its tax rate is 30%. a. What would the depreciation expense be each year under each method? Round your answers to the nearest cent. Scenario (Straight-Line) Scenario 2 (MACRS) Year b. Which depreciation method would produce the higher NPV? -Select-T How much higher would the NPV be under the preferred method? Round your answer to two decimal places. Do not round your intermediate calculations.

Solution

a) Year Scenario 1 (Straight Line) Scenario 2 (MACRS) 1 118750.00 156750.00 2 118750.00 213750.00 3 118750.00 71250.00 4 118750.00 33250.00 b) Value of Tax shield Year Scenario 1 (Straight Line) Scenario 2 (MACRS) 1 35625.00 47025.00 2 35625.00 64125.00 3 35625.00 21375.00 4 35625.00 9975.00 NPV @ 10% $112,926.46 $118,618.28 Clearly MACRS produces better NPV c) NPV is higher by $5,691.82