Question

Broadwing Corporation is analyzing a proposed 5-year project using standard sensitivity analysis. The company expects to sell 30,000 units, ±5 percent. The expected variable cost per unit is $22.40 and the expected fixed costs are $180,000. The fixed and variable cost estimates are considered accurate within a ±5 percent range. The sales price is estimated at $42.00 a unit, ±5 percent. The project requires an initial investment of $350,000 for equipment that will be depreciated using the straight-line method to zero over the project's life. The equipment can be sold for $60,000 at the end of the project. The project requires $50,000 in net working capital up front. The discount rate is 12 percent and tax rate is 25 percent. What is the operating cash flow in year 2 under the optimistic case scenario?

		$348,211.54
		$362,958.78
		$387,615.20
		$406,178.27
		$425,455.83

Answer 1

Initial Investment = $350,000
Useful Life = 5 years

Annual Depreciation = Initial Investment / Useful Life
Annual Depreciation = $350,000 / 5
Annual Depreciation = $70,000

Base Case:

Units Sold = 30,000
Variable Cost per unit = $22.40
Fixed Costs = $180,000
Selling Price per unit = $42.00

Optimistic Case:

Units Sold = 30,000 + 5% * 30,000
Units Sold = 31,500

Variable Cost per unit = $22.40 - 5% * $22.40
Variable Cost per unit = $21.28

Fixed Costs = $180,000 - 5% * $180,000
Fixed Costs = $171,000

Selling Price per unit = $42.00 + 5% * $42.00
Selling Price per unit = $44.10

Operating Cash Flow = [(Selling Price per unit - Variable Cost per unit) * Units Sold - Fixed Costs] * (1 - Tax Rate) + Tax Rate * Depreciation
Operating Cash Flow = [($44.10 - $21.28) * 31,500 - $171,000] * (1 - 0.25) + 0.25 * $70,000
Operating Cash Flow = [$22.82 * 31,500 - $171,000] * 0.75 + 0.25 * $70,000
Operating Cash Flow = $547,830 * 0.75 + 0.25 * $70,000
Operating Cash Flow = $428,372.50