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Dear Sir,
Can you please help with the questions below as BPP Kit Investment Appraisal Q? Thanks.Q 164. (a) When Calculate TAD Saving for the 4th year, why cannot we just use the final allowance 8347*28%=2337?
The answer says 20000*0.28-1400-1050-788=2362, I don’t understand why?Q158. (a) Profitability Index:
I think Project 1: NPV/capital=32740/300,000=0.108,
but the answer says 332740/300,000=1.11
Which one is correct and why? (In lecture you used NPV/Capital for Profitability Index)Q159. (b) After 4th year of operation, continue to produce and sell for the foreseeable future.
I agree the answer calculate th PV of the cash flow in perpetuity, but why it multiplies the Discount Factor of the 4th year?
In the calculation of further 6 years Tax Benefit, it also multiplies Discount Factor of the 4th year, why? It’s cash flow after 4th year.Q160.(c) (2)Selling Price Sensitivity
Why do we have to Discount the Tax liability by one year to give PV of Tax liability?
1774080*0.901?In future, please post questions on different questions separately. The reason is that our answers are to benefit everyone, and many people use the search box to look for answers to problems. We do not give private tuition.
First question:
In the final year the capital allowance is a balancing charge or balancing allowance which is calculated as the difference between the tax written down value and the sale proceeds. In this example the sale proceeds are zero, and the tax written down value after three years is 20,000 – 5,000 – 3,750 – 2,813 = 8,437 and therefore the tax saving is 8,437 x 28% = 2,362. (This is shown in the alternative workings on the second page of the answer.)
The logic of the first set of workings is that the total allowances they are entitled to is the difference between the initial cost and the sale proceeds. So in this case 20,000. Therefore the total tax saved over the life is 20,000 x 28% = 5,600. If you subtract from this the tax saved in the first three years, then the balance is saved in the final year and is again 2,362.I do explain all of this in my free lectures on investment appraisal with tax.
Second question:
The examiner has not been consistent on this. Sometimes he calculates the profitability index as the NPV / initial investment, and sometimes he calculates it as PV / initial investment. Both approaches obviously end up giving the same ranking, and either is accepted in the exam.
Third question:
For every $! that the selling price changes, then so too will the profit change by $1, and therefore the tax will also change by $1 x tax rate.
Therefore we need to look at the present value of the revenue after tax – the tax is one year in arrears and is therefore discounted by an extra year.
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