Info

(salvage value—taxes)

$1,500,000

$3,272,000

$1,200,000

Total cash flow from salvage value = $1,500,000 + $3,272,000 + $1,200,000 = $5,972,000.

a Book value for the building in year 8 equals depreciable basis minus accumulated MACRS depreciation of

$1,320,000. The accumulated depreciation on the equipment is $10,000,000. See Table15.2. b Building: $1,000,000 market value - $6,680,000 book value = $5,680,000 depreciation shortfall, which is treated as an operating expense in year 8.

Equipment: $2,000,000 market value - $0 book value = $2,000,000 depreciation recapture, which is treated as ordinary income in year 8.

c All taxes are based on SVCC's 40% marginal federal-plus-state rate. The table is set up to differentiate ordinary income from captial gains because different tax rates are often charged on those two income sources.

Total cash flow from salvage value = $1,500,000 + $3,272,000 + $1,200,000 = $5,972,000.

a Book value for the building in year 8 equals depreciable basis minus accumulated MACRS depreciation of

$1,320,000. The accumulated depreciation on the equipment is $10,000,000. See Table15.2. b Building: $1,000,000 market value - $6,680,000 book value = $5,680,000 depreciation shortfall, which is treated as an operating expense in year 8.

Equipment: $2,000,000 market value - $0 book value = $2,000,000 depreciation recapture, which is treated as ordinary income in year 8.

c All taxes are based on SVCC's 40% marginal federal-plus-state rate. The table is set up to differentiate ordinary income from captial gains because different tax rates are often charged on those two income sources.

An economically sound capital budgeting decision rule must consistently lead to the acceptance of projects that will increase the value of the firm. When the discounted present value of expected future cash flows exceeds the cost of investment, a project represents a worthy use of scarce resources and should be accepted for investment. When the discounted present value of expected future cash flows is less than the cost of investment, a project represents an inappropriate use of scarce resources and should be rejected. An effective capital budgeting decision rule must also lead to a consistent ranking of projects from most to least desirable and should be easy to apply.

net present value (NPV)

Current-dollar difference between marginal revenues and marginal costs

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