Question

 Strong Tool Company has been considering purchasing a new lathe to replace a fully depreciated lathe that would otherwise last 5 more years. The new lathe is expected to have a​ 5-year life and depreciation charges of $2,060i n Year​ 1; $3,296 in Year​ 2; $1,957 in Year​ 3; $1,236 in both Year 4 and Year​ 5; and $515 in Year 6. The firm estimates the revenues and expenses​ (excluding depreciation and​ interest) for the new and the old lathes to be as shown in the following table

New Lathe			Old Lathe
Year	Revenue	Expenses ​(excluding depreciation and​ interest)		Revenue	Expenses ​(excluding depreciation and​ interest)
1	$41,700	$28,600		$34,500	$26,600
2	42,700	28,600		34,500	26,600
3	43,700	28,600		34,500	26,600
4	44,700	28,600		34,500	26,600
5	45,700	28,600		34,500	26,600

. The firm is subject to a 40% tax rate on ordinary income.

a. Calculate the operating cash inflows associated with each lathe.​ (Note: Be sure to consider the depreciation in year​ 6.)

b. Calculate the operating cash inflows resulting from the proposed lathe replacement.

c. Depict on a time line the incremental operating cash inflows calculated in part b.

Answer 1

a. Operating Cash flow from Old Lathe

Year	Revenue	Expenses	Profit	Tax 40%	Profit after Tax	Operating Cash inflow
1	34500	26600	7900	3160	4740	4740
2	34500	26600	7900	3160	4740	4740
3	34500	26600	7900	3160	4740	4740
4	34500	26600	7900	3160	4740	4740
5	34500	26600	7900	3160	4740	4740

Profit is Revenue - Expenses, No deprectaion charge as old is full depreciable. Profit after tax and operating Cash Flow are euqal as there is no dereciation and no other entry.

Operating Cash flow from New lathe

Revenue (A)	Expenses (B)	Depreciation (C)	Profit (D)= A-B-C	Tax (E) 40% of D	Profit After Tax (F) = D-E	Operating Cash Flow (G) = F + C
41,700	28,600	2,060	11,040	4,416	6,624	8,684
42,700	28,600	3,296	10,804	4,322	6,482	9,778
43,700	28,600	1,957	13,143	5,257	7,886	9,843
44,700	28,600	1,236	14,864	5,946	8,918	10,154
45,700	28,600	1,236	15,864	6,346	9,518	10,754

b. Cash flow from operting cash inflows are shown in above

c. From the year 1 incremental cash flow are received.

Note: In the absence of Finance cost it is assume Zero.