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I did some sums so far where I had to subtract tax allowable depreciation to come to taxable cash flows. But in june 2014, brurung Co, it didn’t happen.
Do we not use tax allowable depreciation when we need to determine APV? If not, then when do we include the tax allowable depreciation?Ok I got my answer. But why did they not include the tax allowable depreciation in the main calculation? Do I have to include it in the workings only and not in the main calculation ?!
4. Also, in the same question , to determine the discount rate we calculated the asset beta first . But we used the equity and the debt value of Lintu Co for that. Did we use Lintu Co ‘s value because we didn’t know the equity value of Burung Co or do we ALWAYS use the proxy companies equity and debt value to determine asset beta?
5. Sorry to bother again, but I have a question regarding the calculation of financing side effects in the same question.
In the calculation of annual subsidy effect, why did we use 2.5% and not 1.5%(2.5% – 100 basis points) ?!
1. Tax allowable depreciation is applicable in all questions – the fact this is APV makes no difference. By definition it reduces the taxable profit and is therefore subtracted when calculating the tax payable. It does not affect the remaining cash flows because it is not a cash flow – it is only relevant for calculating the tax.
2. In the year of sale there is always a balancing allowance or balancing charge of the different between the sale proceeds and the tax written down value. The tax written down value is 16 – (8 + 2 + 1.5) = 4.5. The sale proceeds are 4. Therefore there is a balancing allowance of 0.5.
You should watch my free Paper F9 lectures on investment appraisal with tax, because this is revision of Paper F9.3. You use the proxy company because it is in the same business as the project and we need the risk of the project. You really should watch my free lectures on CAPM because this is standard practice.
4. Note (v) int he question says that the normal borrowing rate is 150 basis points over the government yield rate, and so is 2.5 + 1.5 = 4%.
The subsidised loan rate is 100 points below the government yield rate and is therefore 2.5 – 1 = 1.5%.
Therefore the subsidy benefit is 4 – 1.5 = 2.5%.
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