Question : Capital budgeting Bert Corporation is considering an investment in equipment for R150,000. Data related to the investment are as follows: Year Income before Depreciation and Taxes 1 R60,000 2 60,000 3 60,000 4 60,000 5 60,000 Cost of capital is 10 percent. Bert claims capital allowances using the straight-line method of depreciation with midyear convention (i.e. half a year’s depreciation in the first and final year) for tax purposes. In addition, its tax rate is 40 percent and the depreciable life of the equipment is four years with no salvage value. The equipment is sold at the end of the fifth year. Required: Determine the following amounts using after-tax cash flows: 5.1 Payback period 5.2 Accounting rate of return on original investments for each year. 5.3 Net present value.
Solution ANSWER: Years 1 R 2 R 3 R 4 R 5 R Income before depreciation and taxes R60,000 R60,000 R60,000 R60,000 R60,000 Less: Depreciation 18,750 37,500 37,500 37,500 18,750 Pretax income R41,250 R22,500 R22,500 R22,500 R41,250 Income taxes