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In this question thwy have calculated year 4 capital allowance as 12 , the carrying value at the end of year 3 is 244 and capital allowances are available at 25% while tax rate is 20%. I’m confused about that it says at the end of year 4 the machine would be sold at a price of 150M so shouldn’t we be calculating capital allowances with the balancing charge/allowance method? But in the answer in kaplan they have calculated it by treating it normally i. e deducting 25% from 244 and taking 20% of that remaining amount!
You wouldn’t lose marks if you did that.
However the question does not say anywhere that the machine would be sold.
It says at the end that they have a planning horizon of 4 years, so we appraise over 4 years. But that does not mean that it will actually stop after four years. It gives the value after four years, but again, that doesn’t mean it will be stopped after 4 years.
Dear john, in the 2nd lat para they write if no blockage exists remittable funds wud be 12.26 m….could u plz tel me wt figures did they add up to arrive at 12.26?
It is the PV of the remittances before tax ( 4.13; 2.80; 3.62; and 5.96 in each of years 1 to 4).
Hi John,
In this question, when calculating ta present values of downsizing the company, how is the cash flows 2.86 in yr 1, 2.94 in year 2, 3.03 in year 3 & 3.12 in year 4 calculated.?Hi John, one more thing,
In b, when calculating the blocked remittances, why is the cash flow in year 1 of 179TF multiplied by the inflation rates of year 2,3 & 4?
And how is the Npv £12.26 calculated?The question says that if they downsize then the cash flow will be 4M pre-tax at current prices. Therefore after-tax at 30% is will be 2.8M at current prices.
Because it is at current prices, to get the actual cash flows we inflate at the UK rates of inflation as given in the question.
The blocked remittances will be invest in the Terranian money market, and note (xv) of the question says that the rate of interest earned will be the same as the inflation rate.
The NPV of 12.16M is calculated by discounting the flows shown in part (a) of the answer, but ignoring the tax.
Thank you sir.. I got it. But regarding working capital, why is it released in the fifth year? And shouldn’t the cash flows be till year 4???
It is simply an assumption (and an unusual assumption!).
I would assume that the working capital was released at time 4 (not time 5), which is what the examiner usually does (the examiner has changed twice since this question was asked).
Obviously the answer would be slightly different, but that is irrelevant (it is not the final answer that gets the marks, but the workings) and would still get full marks.
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