Answer:
XYZ, Inc.
Incremental Cash Flows:
Year 0 Year 1 - 19 Year 20
a) Annual Machine Sales
(5,000 x $2,500) $0 $237,500,000 $12,500,000
b) Annual Sales of accessories 0 11,400,000 600,000
Operating Expenses (50% of a) 0 -118,750,000 -6,250,000
Investment -30,000,000
Working Capital investment -2,000,000 2,000,000
Income Taxes 0 -30,495,000 -1,605,000
Incremental Cash flows -$32,000,000 $99,655,000 $7,245,000
b) I should approve the budget based on the incremental cash flows.
Explanation:
The incremental cash is cash flow that a company obtains when it takes on a new project.
a) Annual machine sales = $12,500,000 (5,000 x $2,500). For 19 years, it will total $237,500,000 ($12,500,000 x 19).
b) Annual sales of accessories is $600,000 while for 19 years it is $11,400,000.
c) Annual operating expenses equal 50% of sales of machines. This is equal to $6,250,000 ($12,500,000 x 50%). For 19 years, it is $118,750,000 ($6,250,000 x 19).
d) Income taxes are applied after deducting tax depreciation from the annual revenue less operating expenses. Based on the straight-line method, the annual depreciation is $1,500,000 ($30,000,000/20).
e) There is no tax on the working capital recovered in the 20th year. It is possible to discount the cash flows to their present values, using the cost of capital as 10%. The resulting figure is compared to the initial investments. However, this may not be a requirement of this question.
