Multiple Types of Depreciation Treatments S&S Fitness Company is considering adding a new line of treadmills for obese dogs. Projected revenues are $500,000 for next year and will grow at the forecasted inflation rate of 3% in each of the following three years, after which S&S Fitness will end the project. The projected cost-of-goods- sold (COGS) is 50% of revenues. The corporate income tax rate is 30%, capital gains tax rate is 15%, and the nominal discount rate is 9%. The project will deploy the following assets: a) A piece of land that could currently be sold for $150,000. The real value of the land is estimated to appreciate by 2% per year. b) New machinery with an initial investment of $440,000 that has a useful life of 4 years. Depreciation will be on a 5-year MACRS schedule. The machinery is estimated to have a market value of $12,000 at the end of year 4. c) The project will use other equipment transferred from another facility owned by the firm. This equipment has a market value of $180,000 and a book value of $100,000. If the equipment is kept rather than sold, its remaining book value can be depreciated next year. When the project ends in year 4, the equipment will have a market value of $48,000. d) The project will use excess capacity in the current packaging plant. While this excess capacity has no alternative use now, it is estimated that the firm will have to invest $180,000 in a new packaging plant in year 2 as a consequence of this project using up excess capacity instead of year 4 as originally planned. This equipment is depreciated straight-line to a zero salvage value over two years. Find the NPV of the project.

Assumptions Forecasted Revenue Year 1 COGS as Percent of Revenue Inflation Income tax rate Capital gains tax rate Nominal discount rate Year Rev -COGS - Depreciation EBIT - Taxes NOPAT + Depcreciation Add-Back - Capex - Change in NWC FCF $500,00050%3%30%15%9% 0 1 2 3 4 NPV Appendix: Depreciation under Modified Accelerated Cost Recovery System (MACRS) Depreciation is expressed as a percentage of the asset's initial cost. These schedules are based on IRS Publication 946, entitled How to Depreciate Property. Assumptions Forecasted Revenue Year 1 COGS as Percent of Revenue Inflation Income tax rate Capital gains tax rate Nominal discount rate Year Rev -COGS - Depreciation EBIT - Taxes NOPAT + Depcreciation Add-Back - Capex - Change in NWC FCF $500,00050%3%30%15%9% 0 1 2 3 4 NPV Appendix: Depreciation under Modified Accelerated Cost Recovery System (MACRS) Depreciation is expressed as a percentage of the asset's initial cost. These schedules are based on IRS Publication 946, entitled How to Depreciate Property