Dangerfield industrial systems company is trying to decide between two different conveyor belt systems. System A costs $430,000, has a four-year life, and requires $110,000 in pretax annual operating costs. System b costs %570,000, has a six- year life, and requires $98,000 in pretax annual operating costs. Both systems are to be depreciated straight-line to zero over their lives and will have zero salvage value. Whichever project is chosen, it will not be replaced when it wears out. If the tax rate is 34 percent and the discount rate is 11 percent, which year should the firm choose?
System A - Investment $430,000, Annual cost $110,000 x 66% = $72,600 after tax less 34% of annual S/L depreciation, or 36,550, = $36,050 net after tax cost. PV Annuity, N 4, R 11% = $111,843. Total PV $541,843
System B - Investment $570,000, Annual cost $98,000 x 66% = $64,680 after tax less 34% of annual S/L depreciation, or 32,300 = $32,380 net after tax cost. PV Annuity, N 6, R 11% = $136,985 Total PV $706,985
But this is not their NPV, but simply the PV of the investment plus the PV of each year's after tax cost of operating the conveyor belt.