Incremental operating cash inflows A firm is considering renewing its equipment
ID: 2810295 • Letter: I
Question
Incremental operating cash inflows A firm is considering renewing its equipment to meet increased demand for its product. The cost of equipment modifications is $1.92 million plus $109,000 in installation costs. The firm will depreciate the equipment modifications under MACRS, using a 5-year recovery period see table ). Additional sales revenue rom the renewal should amoun to $ 25 million per year and addi ona o era ng expenses and ot er co s e c din d e reca on and interest) will amount to 38% of the additional sales. The firm is subject to a tax rate of 40%. (Note: Answer the following questions for each of the next 6 years.) What incremental earnings before depreciation, interest, and taxes will result from the renewal? What incremental net operating profits after taxes will result from the renewal? c. What incremental operating cash inflows will result from the renewal?Explanation / Answer
Solution (A) Year 1 2 3 4 5 6 Incremental Sales 1250000 1250000 1250000 1250000 1250000 1250000 Additional Expenses 475000 475000 475000 475000 475000 475000 Incremental Profit 775000 775000 775000 775000 775000 775000 Solution (B) Year 1 2 3 4 5 6 Incremental Sales 1250000 1250000 1250000 1250000 1250000 1250000 Additional Expenses 475000 475000 475000 475000 475000 475000 Incremental Profit 775000 775000 775000 775000 775000 775000 Less :- Depreciation 405800 649280 385510 243480 243480 101450 Incremental profit After Dep 369200 125720 389490 531520 531520 673550 Less :- Tax @40% 147680 50288 155796 212608 212608 269420 Profit after tax 221520 75432 233694 318912 318912 404130 Solution © Year 1 2 3 4 5 6 Incremental Sales 1250000 1250000 1250000 1250000 1250000 1250000 Additional Expenses 475000 475000 475000 475000 475000 475000 Incremental Profit 775000 775000 775000 775000 775000 775000 Less :- Depreciation 405800 649280 385510 243480 243480 101450 Incremental profit After Dep 369200 125720 389490 531520 531520 673550 Less :- Tax @40% 147680 50288 155796 212608 212608 269420 Profit after tax 221520 75432 233694 318912 318912 404130 Add :- Dep ( Non Cash ) 405800 649280 385510 243480 243480 101450 Incremental Cash flows 627320 724712 619204 562392 562392 505580 Working notes :- Total Cost of the Machine 1920000 + 109000 2029000 Year Dep % Dep per year 1 20% 405800 2 32% 649280 3 19% 385510 4 12% 243480 5 12% 243480 6 5% 101450