Supplement_CapitalBudgetingAndTaxes

For pizzaria thats now 0 initial investment 20000 pre

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Unformatted text preview: numbers and outflows as negative numbers. For Pizzaria, that’s Now 0 Initial Investment -$20,000 Pre-tax Inflows Residual Value 1 2 3 4 5 +$6,600 +$6,600 +$6,600 +$6,600 +$6,600 +$1,000 Next, convert to after tax cash flows. Initial Investment Depreciation Tax Shield Periodic Inflows Residual Value Before Tax $20,000 $6,600 $1,000 After Tax $20,000 40%*($19,000/5) = $1,520 (1-40%)*($6,600) = $3,960 $1,000 Using the present value tables on pages 517 and 518 of your text, the net present value of the pinball machine investment is: Year 0 1-5 1-5 5 Description Amount Initial Investment <$20,000> Depreciation Tax Shield 1,520 AfterTax Periodic Inflows 3,960 Residual Value 1,000 Net Present Value PV Factor 1.000 3.791 3.791 .621 PresentValue <$20,000> 5,762 15,012 621 $1,395 6A:002 – Berg Taxes and Capital Budgeting Page 4 The net present value of the project is positive, so Pizzaria should invest in the pinball machine. Note that the depreciation tax shield makes a difference. If we had forgotten that depreciation shields income from taxes, therefore producing a tax benefit, we would have incorrectly concluded that the project should be rejected....
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