Parrino, Essentials of Corporate Finance, 1e Help I System Announcements PRINTER
ID: 2657780 • Letter: P
Question
Parrino, Essentials of Corporate Finance, 1e Help I System Announcements PRINTER VERSION BACK NEXT Sample Test Problem 10.3 Hogvertz Elvin Catering (HEC) is considering switching from its old food maker to a new Wonder Food Maker. Both food makers will remain useful for the next 10 years, but the new food maker will generate a depreciation expense of $5,000 per year, while the old food maker will generate a depreciation expense of $4,000 per year. What is the after-tax free cash flow effect from depreciation of switching to the new food maker for HEC if the firm's marginal tax rate is 40 percent and the discount rate is 12 percent? (Round answer to 2 decimal places, e.g 15.25.) After-tax cash flow effect
Explanation / Answer
Depreciation is a non cash expense thus it doesnot result in cash outflow .however there is a cash inflow of tax saving due to depreciation
Tax saving on new food maker = 5000 * .40 = 2000
Tax saving on old food maker = 4000*.40 = 1600
Incremental cash inflow = 2000-1600 = 400
After taxcash flow effect =PVA 12%,10 *Incremental cash inflow
= 5.65022*400
=$ 2260.09