Corporation VB was formed in 2018. Immediately prior to year end, VB is consider

Question

Corporation VB was formed in 2018. Immediately prior to year end, VB is considering a $500,000 deductible expenditure. It can either make the expenditure before the end of 2018, or wait until 2019. However, if it waits the cost of the expenditure will increase to $525,000. Before considering this expenditure, VB has the following projected pre-tax cash flows and taxable income for 2018, 2019, and 2020. Use Appendix A.

Using a 5 percent discount rate, compute the NPV of VB's after-tax cashflows if the expenditure is in 2018.

Using a 5 percent discount rate, compute the NPV of VB's after-tax cashflows if the expenditure is in 2019.

Based on your calculations, when should VB make this expenditure?

Explanation / Answer

NPV IF EXPENSE IN 2018

NPV = (120000 -500000) * PVF(1,5%) + 400000  * PVF(2,5%) +700000 * PVF(3,5%)

NPV = -380000 * 0.9524 + 400000 * 0.9070 + 700000 * 0.8638

NPV = -361912 +362800 + 604660

NPV = 605548

NPV IF EXPENSE IN 2019

NPV = (120000 ) * PVF(1,5%) + (400000-525000) * PVF(2,5%) +700000 * PVF(3,5%)

NPV = 120000 * 0.9524 - 125000 * 0.9070 + 700000 * 0.8638

NPV = 114288-113375 + 604660

NPV = 605573

As NPV is more in case VB made expense in 2019, hence expense should be made in 2019

After tax calculations cant be made as tax rate not given but decision will be same irrespective of tax rates.

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