Problem:

i) Assume a firm buys a new tooling machine for Rs 2000,000, installation costs net of taxes are Rs 300,000. An existing asset has a book value of Rs 400,000 and the firm is in the 30% tax bracket. Suppose the company sells the existing asset for Rs 400,000.

(a) Calculate the net investment of the firm.

(b) Assume the company sells the existing asset for 350,000 instead of Rs 400,000. How is your answer to part (a) affected?

(c) Suppose the company now sells the existing asset for 450,000 instead of Rs 350,000. How is net investment affected?

(d) The firm is also evaluating the purchase of a new project with a depreciable base of Rs 200,000, expected economic life of 5 years and change in earnings before taxes and depreciation of Rs 70,000 year 1, Rs 50,000 year 2 , Rs 40,000 year 3, Rs 20,000 year 4 and Rs 10,000 year 5. Assume straightline depreciation and a 20% tax rate, Calculate the total net cash flows over the five years.

ii) To what extent can capital budgeting help a bankrupt city?

iii) Municipal governments use a unified budget system. Comment on this statement.