Question

The U.S. government has decided to decrease the corporate tax rate from 35% to 20% (for the record, I originally wrote this problem long before this actually happened). You have been tasked with re-estimating the remaining PV of a project’s cash flows. The project will operate for the next 4 years before shutting down. It will produce yearly revenue of $40k with yearly operating costs of $20k. The project utilizes some heavy machinery which has a current book value of $80k and is being depreciated on a straight-line basis by $15k per year for the remainder of the project. (IMPORTANT: This does not mean that you purchase the machine today for $80k. You bought the machine in the past when you started the project). The machinery will have a resell value of $30k at the completion of the project. The firm’s discount rate is 10%.

1. Show how much each of the project’s OCFs will change on a timeline once the tax rate is decreased.
2. Compute the after-tax salvage both before and after the tax change.

Answer 1

CASH FLOW WHEN TAX RATE IS 35%

YEAR	INFLOW-REVENUE	OUTFLOW-OPERATIONG COST	DEPRECIATION	NET FLOWS BEFORE TAX	TAX @ 35%	NET FLOWS AFTER TAX	DISCOUNT FACTOR @10%	DISCOUNTED CASH FLOWS	DISCOUNTED CASH FLOWS AFTER DEPRECIATION IE CFAT
1	40,000.00	20,000.00	15,000.00	5,000.00	1750	3,250.00	0.909	2954.545	17,954.55
2	40,000.00	20,000.00	15,000.00	5,000.00	1750	3,250.00	0.826	2685.950	17,685.95
3	40,000.00	20,000.00	15,000.00	5,000.00	1750	3,250.00	0.751	2441.773	17,441.77
4	40,000.00	20,000.00	15,000.00	5,000.00	1750	3,250.00	0.683	2219.794	17,219.79
TERMINAL FLOWS AT YEAR 4	30,000.00	20,000.00	-	10,000.00	3500	6,500.00	0.683	4439.587	4,439.59
								NET FLOWS	74,741.65
	CASH FLOW	WHEN TAX	RATE IS	20%
YEAR	INFLOW-REVENUE	OUTFLOW-OPERATIONG COST	DEPRECIATION	NET FLOWS BEFORE TAX	TAX @ 20%	NET FLOWS AFTER TAX	DISCOUNT FACTOR @10%	DISCOUNTED CASH FLOWS	DISCOUNTED CASH FLOWS AFTER DEPRECIATION IE CFAT
1	40,000.00	20,000.00	15,000.00	5,000.00	1000	4,000.00	0.909	3636.364	18,636.36
2	40,000.00	20,000.00	15,000.00	5,000.00	1000	4,000.00	0.826	3305.785	18,305.79
3	40,000.00	20,000.00	15,000.00	5,000.00	1000	4,000.00	0.751	3005.259	18,005.26
4	40,000.00	20,000.00	15,000.00	5,000.00	1000	4,000.00	0.683	2732.054	17,732.05
TERMINAL FLOWS AT YEAR 4	30,000.00	20,000.00	-	10,000.00	2000	8,000.00	0.683	5464.108	5,464.11
								NET FLOWS	78,143.57
						SAVINGS DUE TO 15% TAX CHANGE IS			3,401.92