Question

You are evaluating a project for your company. You estimate the sales price to be $240 per unit and sales volume to be 3,400 units in year 1; 4,400 units in year 2; and 2,900 units in year 3. The project has a three-year life. Variable costs amount to $90 per unit and fixed costs are $170,000 per year. The project requires an initial investment of $213,000 in assets which will be depreciated straight-line to zero over the three-year project life. The actual market value of these assets at the end of year 3 is expected to be $34,000. NWC requirements at the beginning of each year will be approximately 14 percent of the projected sales during the coming year. The tax rate is 34 percent and the required return on the project is 8 percent. What is the operating cash flow for the project in year 2A. 276,540B. 395,820C. 419,000D. 347,540

Answer 1

Answer:

D. $347,540      

Explanation:

The operating cash flow is shown below:

= EBIT + Depreciation - Income tax expense

where,  

EBIT = (Sales price per unit - variable cost per unit) × number of units in year 2 - fixed cost

= ($240 - $90) × 4,400 units - $170,000

= $490,000

Income tax expense = (Sales price per unit - variable cost per unit) × number of units in year 2 - fixed cost × tax rate

=  ($240 - $90) × 4,400 units - $170,000 × 0.34

= $166,600

And, the depreciation expense would be

= Depreciation expense ×  tax rate

= $71,000 ×  0.34

= $24,140

The depreciation expense would be

= (Initial investment - salvage value) ÷ (useful life)

= ($213,000 - $0) ÷ (3 years)

= ($213,000) ÷ (3 years)  

= $71,000

Now apply these values to the formula above.

Thus, the value would be

= $490,000 + $24,140 - $166,600

= $347,540