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1 019 A - 2 3 4 5 6 7 7 8 9 10 11 12 Problem 9-27 fx G H Markov Manufacturing recently spent $15 million to purchase some equipment used in the manufacture of disk drives. The firm expects that this equipment will have a useful life of five years, and its marginal corporate tax rate is 35%. The company plans to use straight-line depreciation. a. What is the annual depreciation expense associated with this equipment? b. What is the annual depreciation tax shield? c. Rather than straight-line depreciation, suppose Markov will use the MACRS depreciation method for five-year property. Calculate the depreciation tax shield each year for this equipment under this accelerated depreciation schedule. d. If Markov has a choice between straight-line and MACRS depreciation schedules, and its marginal corporate tax rate is expected to remain constant, which should it choose? Why? e. How might your answer to part (d) change if Markov anticipates that its marginal corporate tax rate will increase substantially over the next five years? Equipment cost 21567 13 14 a. Annual depreciation expense: b. Annual depreciation tax shield: 18 c. 222 19 20 MACRS Schedule: Depreciation Expense: 21 22 Depreciation Tax Shield: 23 24 25 26 27 $15,000.00 (thousand) $3,000.00 K M N $1,050.00 Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 SO 20.00% $3,000 32.00% 19.20% 11.52% 11.52% $4,800 $2,880 $1,728 $1,728 5.76% $864 d. In both cases, its total depreciation tax shield is the same. But with MACRS, it receives the depreciation tax shields soonerthus, MACRS depreciation leads to a higher NPV of Markov's FCF. e. If the tax rate will increase substantially, than Markov may be better off claiming higher depreciation expenses in later years, since the tax benefit at that time will be greater. 9-5 9-12 9-13 9-14 9-18 9-27 + Battery status: fully charged 100% 1 019 A - 2 3 4 5 6 7 7 8 9 10 11 12 Problem 9-27 fx G H Markov Manufacturing recently spent $15 million to purchase some equipment used in the manufacture of disk drives. The firm expects that this equipment will have a useful life of five years, and its marginal corporate tax rate is 35%. The company plans to use straight-line depreciation. a. What is the annual depreciation expense associated with this equipment? b. What is the annual depreciation tax shield? c. Rather than straight-line depreciation, suppose Markov will use the MACRS depreciation method for five-year property. Calculate the depreciation tax shield each year for this equipment under this accelerated depreciation schedule. d. If Markov has a choice between straight-line and MACRS depreciation schedules, and its marginal corporate tax rate is expected to remain constant, which should it choose? Why? e. How might your answer to part (d) change if Markov anticipates that its marginal corporate tax rate will increase substantially over the next five years? Equipment cost 21567 13 14 a. Annual depreciation expense: b. Annual depreciation tax shield: 18 c. 222 19 20 MACRS Schedule: Depreciation Expense: 21 22 Depreciation Tax Shield: 23 24 25 26 27 $15,000.00 (thousand) $3,000.00 K M N $1,050.00 Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 SO 20.00% $3,000 32.00% 19.20% 11.52% 11.52% $4,800 $2,880 $1,728 $1,728 5.76% $864 d. In both cases, its total depreciation tax shield is the same. But with MACRS, it receives the depreciation tax shields soonerthus, MACRS depreciation leads to a higher NPV of Markov's FCF. e. If the tax rate will increase substantially, than Markov may be better off claiming higher depreciation expenses in later years, since the tax benefit at that time will be greater. 9-5 9-12 9-13 9-14 9-18 9-27 + Battery status: fully charged 100%