1. A company paid $50,000 for research equipment that is expected to have a salvage value of
$15,000 at the end of its 5-year life. Develop the depreciation schedule for this equipment using each
of the following methods:
(a) Straight line.
(b) 150% declining balance.
(c) Sum-of-yearsdigits.
(d) Modified accelerated cost system (MACRS); research equipment belongs to the 5-year MACRS class
2. Suppose it turns out that the research equipment purchased by the company i n Problem 1 is
actually sold for a value of $10,000 at the end of five years. In this case, how much loss or ordinary
gain (depreciation capture) will there be when the equipment is sold? Answer this question using
each of the depreciation schedules you developed in Problem 1.
Note that the depreciation schedules in Problem 1 were developed using an estimated (or projected) salvage
value of $15,000 but we are now told that the equipment is, instead, sold at the end of the fifth year for an actual
salvage value of $10,000. This actual salvage value is, thus, the equipmentàmarket value at the time it is sold.
3. Suppose now the research equipment described in Problems 1 and 2 also generated net
income of $24,000 in each of the five years that it was used. Also assume that the company is subject
to a combined income tax rate of 30% and that its minimum attractive rate of return is 20%. Find
both:
o
o
the after-tax present worth; and
the after-tax internal rate of return
associated with this investment assuming that the research equipment was depreciated using each of the
depreciation schedules you developed in Problem 1.
4. Based on your results for Problem 3, which depreciation method maximizes the after-tax present
worth? Similarly, which depreciation method maximizes the after-tax internal rate of return?
NOTE:
Please be sure to note that, in Problem 1, you are asked to be developed four different depreciation schedules
assuming a predicted salvage value of $15,000.
In problem 2, however, you are told that the the asset actually was sold for a salvage value of
$10,000. Thus, in computing the loss or ordinary gain, be sure to use the actual salvage value of
$10,000 as the market value and compare that to the book values you calculated in Problem 1.
This often happens in the real world. Depreciation schedules are developed at the time the asset is
purchased and doing so requires one to predict its salvage value at the time of purchase. (For example,
the straight-line method requires us to explicitly predict the salvage value while MACRS implicitly
predicts the salvage value will be zero at the end of the depreciable life.) However, at the end of its life,
the actual salvage value will likely be different from the value that was initially predicted.
Then, when you calculate the after-tax cash flows in Problem 3:
•
Once again use the the depreciation charges you calculated in Problem 1 where needed (which were
based on the predicted salvage value of $15,000); but also
Use the actual salvage value (market value) of $10,000 as the price at which the asset is sold for in
year 5. (In other use a value of $10,000 as the before-tax cash flow in row 5* of the table that you use
to calculate the after-tax cash flows.)

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