Question 9.11: After-Tax Investment Cost of a Defender: BV < MV An engin...
After-Tax Investment Cost of a Defender: BV < MV
An engineering consulting firm is considering the replacement of its CAD workstation. The workstation was purchased four years ago for $20,000.Depreciation deductions have followed the MACRS (GDS) five-year property class schedule. The workstation can be sold now for $4,000. Assuming the effective income tax rate is 40%, compute the after-tax investment value of the CAD workstation if it is kept.
To compute the ATCF associated with keeping the defender, we must first compute the current BV, BV_{0}. The workstation has been depreciated for four years under the MACRS (GDS) system with a five-year property class. Thus,
BV_{0} = $20,000(1 − 0.2 − 0.32 − 0.192 − 0.1152) = $3,456.^{\ast }
Using the format presented in Figure 9-5, we find that the ATCF associated with keeping the defender can be computed as follows:
| End of Year, k | BTCF | Depreciation | Taxable Income | Cash Flow for Income Taxes | ATCF |
| 0 | −$4,000 | None | −($4,000 − $3,456) = −$544 | (−0.4)(−$544)=$218 | −$4,000 + $218 = −$3,782 |
The after-tax investment value of keeping the existing CAD workstation is $3,782. Note that, in the case where MV_{0} is higher than BV_{0}, the after-tax investment value is lower than the before-tax investment value. This is because the gain on disposal (and resulting tax liability) does not occur at this time if the defender is retained.
