(10 points) Calculate the annual pre-tax capital recovery cost (CRC) for the following tractor. Use the NPV (NPC) capital budget format discussed in class. Be sure to calculate the after-tax CRC and pre-tax CRC for every individual item included in the budget. Purchase price: $272,500 Depreciable life: 6 years Straight-line depreciation $6,000 salvage value used for depreciation 10% investment tax credit Useful life: 10 years 3.5% real pre-tax interest rate 15% income tax rate 0% inflation Expected value of the machine in 10 years is $20,000 (year 10 prices) (5 points) Assume that the machine in #1 is worth $40,000 in year 10 (instead of $20,000). Do not change the salvage value for depreciation. Recalculate the capital recovery cost. What happened to the capital recovery cost when the terminal value increased? (7 points) Using the data from #1, recalculate the capital recovery charge assuming a 25% tax rate. How does the tax rate affect the capital recovery cost? (5 points) Calculate the capital recovery cost for the machine in #1 using a 0% tax rate and a 3.5% discount rate. Ignore all income tax related cash flows. That is, do not include the investment tax credit, depreciation shield, or taxes on the terminal value. The purpose of this exercise is to notice the magnitude of error introduced by ignoring income taxes. If you ignore tax computations, will you over or under invest in capital? (10 points) Calculate the annual pre-tax capital recovery cost (CRC) for the following tractor. Use the NPV (NPC) capital budget format discussed in class. Be sure to calculate the after-tax CRC and pre-tax CRC for every individual item included in the budget. Purchase price: $272,500 Depreciable life: 6 years Straight-line depreciation $6,000 salvage value used for depreciation 10% investment tax credit Useful life: 10 years 3.5% real pre-tax interest rate 15% income tax rate 0% inflation Expected value of the machine in 10 years is $20,000 (year 10 prices) (5 points) Assume that the machine in #1 is worth $40,000 in year 10 (instead of $20,000). Do not change the salvage value for depreciation. Recalculate the capital recovery cost. What happened to the capital recovery cost when the terminal value increased? (7 points) Using the data from #1, recalculate the capital recovery charge assuming a 25% tax rate. How does the tax rate affect the capital recovery cost? (5 points) Calculate the capital recovery cost for the machine in #1 using a 0% tax rate and a 3.5% discount rate. Ignore all income tax related cash flows. That is, do not include the investment tax credit, depreciation shield, or taxes on the terminal value. The purpose of this exercise is to notice the magnitude of error introduced by ignoring income taxes. If you ignore tax computations, will you over or under invest in capital
