In: Accounting
Daily Enterprises is purchasing a
$ 9.7$9.7
million machine. It will cost
$ 45 comma 000$45,000
to transport and install the machine. The machine has a depreciable life of five years using straight-line depreciation and will have no salvage value. The machine will generate incremental revenues of
$ 4.3$4.3
million per year along with incremental costs of
$ 1.4$1.4
million per year. Daily's marginal tax rate is
35 %35%.
You are forecasting incremental free cash flows for Daily Enterprises. What are the incremental free cash flows associated with the new machine?
2.
Castle View Games would like to invest in a division to develop software for a soon-to-be-released video game console. To evaluate this decision, the firm first attempts to project the working capital needs for this operation. Its chief financial officer has developed the following estimates (in millions of dollars): (To copy the table below and use in Excel, click on icon in the upper right corner of table.)
Year 1 |
Year 2 |
Year 3 |
Year 4 |
Year 5 |
|||
1 |
Cash |
44 |
1212 |
1616 |
1515 |
1616 |
|
2 |
Accounts receivable |
2020 |
2525 |
2424 |
2424 |
2424 |
|
3 |
Inventory |
66 |
88 |
1111 |
1212 |
1616 |
|
4 |
Accounts payable |
1818 |
2121 |
2424 |
2929 |
3232 |
Assuming that Castle View currently does not have any working capital invested in this division, calculate the cash flows associated with changes in working capital for the first five years of this investment. (Note: Enter decreases as negative numbers.)
1)
Incremental Free cash flows associated with new machine | $2,567,150 |
Explanation:-
Cost of machine = Purchase cost of machine + transport and Installation cost | |
Cost of machine = $9,700,000 + $45,000 = $9,745,000 | |
Computation of free cash flows associated with new machine: | |
Incremental revenue | $4,300,000 |
Less: Incremental cost | ($1,400,000) |
$2,900,000 | |
Less: Depreciation ($9,745,000/5 years) | (1,949,000) |
Earnings before tax | $951,000 |
Less: Tax ($951,000 × 35%) | ($332,850) |
Earnings after tax | $618,150 |
Incremental free cash flows = Earnings after tax + Depreciation |
Incremental free cash flows= $618,150 + $1,949,000 |
Incremental free cash flows = $2,567,150 |
2)
(In millions of dollar) | |||||
Year 1 | Year 2 | Year 3 | Year 4 | Year 5 | |
Cash | $44 | $1,212 | $1,616 | $1,515 | $1,616 |
Account Receivable | $2,020 | $2,525 | $2,424 | $2,424 | $2,424 |
Inventory | $66 | $88 | $1,111 | $1,212 | $1,616 |
Total current assets | $2,130 | $3,825 | $5,151 | $5,151 | $5,656 |
Less: Account payable | ($1,818) | ($2,121) | ($2,424) | ($2,929) | ($3,232) |
Net working capital (Total current assets - Account Payable) | $312 | $1,704 | $2,727 | $2,222 | $2,424 |
Change in Net working capital | $312 | $1,392 ($1,704 - $312) | $1,023 ($2,727- $1,704) | ($505) [$2,222--$2,727] | $202 ($2,424 -$2,222) |