Question

Calculating Nominal Cash Flow: Etonic Inc. is considering an investment of $365,000 in an asset with an economic life of five years. The firm estimates that the nominal annual cash revenues and expenses at the end of the first year will be $245,000 and $70,000, respectively. Both revenues and expenses will grow thereafter at the annual inflation rate of 3 percent. Etonic will use the straight-line method to depreciate its asset to zero over five years. The salvage value of the asset is estimated to be $45,000 in nominal terms at that time. The one-time net working capital investment of $10,000 is required immediately and will be recovered at the end of the project. All corporate cash flows are subject to a 34 percent tax rate. What is the project’s total nominal cash flow from assets for each year?

Answer 1

Time line		0	1	2	3	4	5
Cost of new machine		-365000
Initial working capital		-10000
=Initial Investment outlay		-375000
Sales			245000	252350	259920.5	267718.12	275749.66
Profits	Sales-variable cost		175000	180250	185657.5	191227.23	196964.04
-Depreciation	Cost of equipment/no. of years		-73000	-73000	-73000	-73000	-73000
=Pretax cash flows			102000	107250	112657.5	118227.23	123964.04
-taxes	=(Pretax cash flows)*(1-tax)		67320	70785	74353.95	78029.969	81816.268
+Depreciation			73000	73000	73000	73000	73000
=after tax operating cash flow			140320	143785	147353.95	151029.97	154816.27
reversal of working capital							10000
+Proceeds from sale of equipment after tax	=selling price* ( 1 -tax rate)						29700
+Tax shield on salvage book value	=Salvage value * tax rate						0
=Terminal year after tax cash flows							39700
Total Cash flow for the period		-375000	140320	143785	147353.95	151029.97	194516.27