Question

Daily Enterprises is purchasing a $ 10.4 million machine. It will cost $ 46 comma 000 to transport and install the machine. The machine has a depreciable life of five years using​ straight-line depreciation and will have no salvage value. The machine will generate incremental revenues of $ 4.4 million per year along with incremental costs of $ 1.3 million per year.​ Daily's marginal tax rate is 35 % . You are forecasting incremental free cash flows for Daily Enterprises. What are the incremental free cash flows associated with the new​ machine?
a. The free cash flow for year 0 will be $ - 10,446,000 . (Round to the nearest dollar.)
b. The free cash flow for years 1-5 will be $ (Round to the nearest dollar.)

Answer 1

Answer:

b) $2.743 m / for each of the 5 years

Explanation:

In year 0 only outflows occur and we assume all the revenues accrue after a full year of operation so Free cash flows at year 0 are = Initial outlay + Transportation costs = - $10,446,000

For Year 1 - 5  we calculate net cash flows before tax,

Year 1 = $4.4 m - 1.3 m = $3.1 m

This will remain the same through out the project life.

We also calculate depreciation tax shield,

Depreciation = 10.4 / 5 = $2.08 m / year

For tax subtract the depreciation and then add it back later for free cash flows

Free Cash flows after depreciation = 3.1 - 2.08 = 1.02 m

Tax = 1.02 * 0.35 = 0.357 m

Net Free cash flow for Year 1-5 = 1.02 - 0.357 + 2.08 = $2.743 m / year

Hope that helps.