BEFORE & AFTER-TAX MARR
0.20 * 0.60 = 12 %
‰
If the asset is nondepreciable and there are no gains or losses on disposal,
tax credits, or other types of deductions involved this approximation
approximation in the
equation above is exact
‰
Otherwise, some degree of error is introduced,
introduced, since the factors cited
affect amount and timing of income tax payments
Costs of Capital in After Tax Studies
‰
The afterafter-taxtax-MARR should be at least as large as
the afterafter-taxtax-costcost-ofof-capital.
‰
AfterAfter-taxtax-costscosts-ofof-EQUILITYEQUILITY-capital (e.g. dividend rate) is usually larger than
afterafter-taxtax-costcost-ofof-BORROWEDBORROWED-capital (e.g. after tax interest rate).
‰
Unlike dividends, interest is an example of (tax deductible) costs.
costs. Thus with
40% tax rate,
a $100 paid in form of dividends results in
$100 cash outflow;
a $100 paid in form of interest results in only $ 60 cash outflow
(Creditors receive $100, but company decreases its taxes by $40).
$40).
‰
Weighted Average Cost of Capital (WACC)
= i borrowed *(1 – tax rate)*(% of debt capital) + e equity *(% of equity capital)
where i borrowed = costcost-ofof-borrowedborrowed-capital (before(before-tax; in %)
(aftere equity = costcost-ofof-equityequity-capital
(after-tax; in %)
GAIN ON DISPOSAL OF A DEPRECIABLE TANGIBLE ASSET
EXAMPLE (7-11)
A corporation sold an equipment for $78,600. The accounting
records show that its cost basis, B, is $190,000 and the accumulated
depreciation is $139,200. Assume that the effective tax rate is 40%.
(a) What is the gain (loss) on disposal?
(b) What is the tax liability (credit) from this sale?
(a) The BV at the time of sale is $190,000 – $139,200 = $ 50,800. Thus
the gain on disposal is $78,600 – $50,800 = $27,800.
(b) The tax liability on this gain is – 40% * $27,800 = – $11,120.
Simple Comprehensive Example
In year 2001 Ink & Son started a new business of printing pictures.
During 2001 it bought an automatic printing machine for $100,000;
200,000 sheets of printing paper for $20,000;
and electricity for $5,000.
It sold 200,000 sheets of prints for $80,000.
During 2002 it bought 300,000 sheets of printing paper for $30,000
and electricity for $10,000.
The company sold 300,000 sheets of prints for $70,000
and the automatic printing machine (it left the business) for $40,000;
BTCF
2000 (BoY 2001)
2001
2002
What are Before Tax Cash Flow, Net Income Before Tax, Net
Income After Tax and After Tax Cash Flow from each year of printing
business of Ink & Son? Assume that Efficient Income Tax Rate is
40% and that their printing machine is depreciated under GDS in 5year property class. Assume MARRBT=15%, was the venture good?
What is after tax FW of this venture at the End-of-Year 2002?
EoY
BTCF
2000
- 100,000
2001
+ 55,000
2002
+ 70,000
Simple Comprehensive Example
In year 2001 Ink & Son started a new business of printing pictures.
During 2001 it bought an automatic printing machine for $100,000;
200,000 sheets of printing paper for $20,000;
and electricity for $5,000.
It sold 200,000 sheets of prints for $80,000.
During 2002 it bought 300,000 sheets of printing paper for $30,000
and electricity for $10,000.
The company sold 300,000 sheets of prints for $70,000
and the automatic printing machine (it left the business) for $40,000;
NIBT
Depreciates
2001
2002
- 20,000
- 20,000
- 5,000
+80,000
+35,000
- 16,000
- 30,000
- 10,000
+70,000
What are Before Tax Cash Flow, Net Income Before Tax, Net
Loss on Disposal
Income After Tax and After Tax Cash Flow from each year of printing
+ 40,000
business of Ink & Son? Assume that Efficient Income Tax Rate is
- 64,000 =- 24,000
40% and that their printing machine is depreciated under GDS in 5- 10,000
year property class. Assume MARRBT=15%, was the venture good?
What is after tax FW of this venture at the End-of-Year
2002?
Depreciation:
2001
2002 .
200% DB method:
EoY
BTCF
NIBT
$100,000*(200%/5)/2= $20,000
- 100,000
0
2000
$80,000*(200%/5)= $32,000
SL method:
2001
+ 35,000
+ 55,000
$100,000 / 5 / 2= $10,000
2002
- 10,000
$80,000 / 4 = $20,000
+ 70,000
Simple Comprehensive Example
NIAT
2001
In year 2001 Ink & Son started a new business of printing pictures.
During 2001 it bought an automatic printing machine for $100,000;
200,000 sheets of printing paper for $20,000;
and electricity for $5,000.
It sold 200,000 sheets of prints for $80,000.
During 2002 it bought 300,000 sheets of printing paper for $30,000
and electricity for $10,000.
The company sold 300,000 sheets of prints for $70,000
and the automatic printing machine (it left the business) for $40,000;
2002
What are Before Tax Cash Flow, Net Income Before Tax, Net
Income After Tax and After Tax Cash Flow from each year of printing
business of Ink & Son? Assume that Efficient Income Tax Rate is
40% and that their printing machine is depreciated under GDS in 5HINT
for the
TAKE-HOME-QUIZ:
year
property
class.
Assume MARRBT=15%, was the venture good?
taxes
from
revenues
can be also
saved.
What
is after
taxunspecified
FW of this venture
at the End-of-Year
2002?
EoY
BTCF
2000
- 100,000
0
2001
+ 55,000
2002
+ 70,000
NIAT
NIBT
- 20,000
- 20,000
- 5,000
+80,000
+35,000
- 14,000
+21,000
- 16,000
- 30,000
- 10,000
+70,000
Loss on Disposal
+ 40,000
- 64,000 =- 24,000
- 10,000
Tax saved + 4,000
- 6,000
TAX
0
0
+ 35,000
+ 21,000
- 14,000
- 10,000
-
+ 4,000
6,000
Simple Comprehensive Example
ATCF =
= BTCF + T
In year 2001 Ink & Son started a new business of printing pictures.
During 2001 it bought an automatic printing machine for $100,000;
200,000 sheets of printing paper for $20,000;
and electricity for $5,000.
It sold 200,000 sheets of prints for $80,000.
During 2002 it bought 300,000 sheets of printing paper for $30,000
and electricity for $10,000.
The company sold 300,000 sheets of prints for $70,000
and the automatic printing machine (it left the business) for $40,000;
MARRBT = 15%
MARRAT = 9%
(15% *(1- 40%) = 9% )
IRRBT = 15.57%
IRRAT = 8.93% =>No.
FW2002 =
74,000
What are Before Tax Cash Flow, Net Income Before Tax, Net
Income After Tax and After Tax Cash Flow from each year of printing
+ 1.09 * 41,000
business of Ink & Son? Assume that Efficient Income Tax Rate is
- 1.09 2 * 100,000
40% and that their printing machine is depreciated under GDS in 5year property class. Assume MARRBT=15%, was the venture good?
= - 120 ($)
What is after tax FW of this venture at the End-of-Year 2002?
EoY
BTCF
2000
- 100,000
0
0
0
-100,000
2001
+ 55,000
+ 35,000
+ 21,000
- 14,000
+ 41,000
-
+ 4,000
+ 74,000
2002
+ 70,000
NIBT
NIAT
- 10,000
TAX
6,000
ATCF
NET INCOME BEFORE & AFTER TAXES
(* paid to banks or HK tax residents)
BEFORE & AFTER TAX CASH FLOW
‡ BTCF0= – Cash Outflow On Capital Investment
- dk + dk
= NIATk + dk
// we will use this later
= BTCFk – t (BTCFk – dk )
AFTER TAX ANALYSES
EXAMPLE (7-16)
Certain new machinery, when placed in service, is estimated to cost $180,000. It is expected
to reduce net annual operating expenses by $36,000 per year for 10 years and to have a
$30,000 MV at the end of the 10th year.
(a) Develop the before and after-tax cash flows
(b) Calculate the after-tax PW and after tax IRR.
Assume that the effective income tax rate is 38% and that this machinery is in the 10-year
MACRS (GDS) property class. The after-tax MARR is 10%.
Another EXAMPLE
0.15 * 5/3 = 25%
Note: PW(25%) = $1,495
Another EXAMPLE
(NIBTk)
0
1
2
3
4
4
(P/F,15%,year)
3,680
3,168
2,630
3,921
4,000–40%*2,080=3168
4,000–1,920–832 = 1,248
PW (15%)
1.00
0.87
0.76
0.66
0.57
0.57
10,000 * 0.1152 /2 = 576
5,000 – 2,304 = 2696
Another EXAMPLE
(NIBTk)
(P/F,15%,year)
3,680
3,168
2,630
3,921
1.00
0.87
0.76
0.66
0.57
0.57
PW (15%)
-10,000
2,783
2,783
2,083
1,504
2,242
$ 1,395
4,000–40%*2,080=3168
4,000–1,920–832 = 1,248
10,000 * 0.1152 /2 = 576
5,000 – 2,304 = 2696