Question

Maria Bakery is considering a 3-year project with an initial cost of $93,000. The project will not directly produce any sales but will reduce operating costs by $31,000 a year. The equipment is classified as MACRS 7-year property. The MACRS table values are .1429, .2449, .1749, .1249, .0893, .0892, .0893, and .0446 for Years 1 to 8, respectively. At the end of the project, the equipment will be sold for an estimated $43,270. The tax rate is 34 percent and the required return is 10 percent. An extra $12,000 of inventory will be required for the life of the project. What is the total cash flow for Year 3?

		$72,360.75
		$80,375.96
		$91,599.44
		$96,848.84
		$102,219.50

Answer 1

Answer is $80,375.96

Cost of Equipment = $93,000

Depreciation Year 1 = 0.1429 * $93,000
Depreciation Year 1 = $13,289.70

Depreciation Year 2 = 0.2449 * $93,000
Depreciation Year 2 = $22,775.70

Depreciation Year 3 = 0.1729 * $93,000
Depreciation Year 3 = $16,265.70

Book Value of Asset at the end of Year 3 = Cost of Equipment - Depreciation Year 1 - Depreciation Year 2 - Depreciation Year 3
Book Value of Asset at the end of Year 3 = $93,000 - $13,289.70 - $22,775.70 - $16,265.70
Book Value of Asset at the end of Year 3 = $40,668.90

Salvage Value = $43,270

After-tax Salvage Value = Salvage Value - (Salvage Value - Book Value)*tax rate
After-tax Salvage Value = $43,270 - ($43,270 - $40,668.90)*0.34
After-tax Salvage Value = $42,385.63

Cost Saving = $31,000

OCF Year 3 = Cost Saving * (1 - tax) + tax * Depreciation Year 3
OCF Year 3 = $31,000 * (1 - 0.34) + 0.34 * $16,265.70
OCF Year 3 = $25,990.33

NWC recovered = $12,000

Net Cash Flow Year 3 = OCF Year 3 + NWC recovered + After-tax Salvage Value
Net Cash Flow Year 3 = $25,990.34 + $12,000.00 + $42,385.63
Net Cash Flow Year 3 = $803,375.96