Question

Bill’s Winery is considering opening a winery near campus. To open the winery, they must purchase $370 in equipment. Shipping of the equipment will cost $50 and installation of the equipment will be $40. In addition to the equipment, Bill’s Winery will build a new building with an all-in price of $1000. Bill bought the land for the winery for $200 five years ago and has no plans for the land if he does not build the winery. The modifications and equipment are depreciated using the 5-year MACRS schedule. Bill’s Winery will operate the winery for four years, and then expects to sell the winery to an investor for $1,200 plus any working capital. The firm will have some one-time expenses in year 1 of $170, primarily licenses and legal fees. To operate the winery, Bill’s Winery will need an increase in Inventory of $17, an increase of Accounts Receivables of $24, and will have an increase in Accounts Payable of $49. Working capital will be recovered when we sell the winery.

Annual sales are as follows; $400 in year 1, $1,200 in year 2, $2,200 in year 3, and $2,500 in year 4. Cost of Goods Sold (excluding overhead, depreciation, and lease payments) are 40% of annual sales. Production labor is 20% of sales. To manage the company, executives and administrators must be hired, at an annual fixed cost of $260. Property taxes and alcohol licenses are $300 per year. Bill’s has an agreement for a 3-year 6% amortized Small Business Administration Loan to finance part of the project. The firm needs new equity investors to fund the expansion and Bill’s Winery has only been able to find one equity investor. Both SBA and this equity investor requires that the firm have audited financial statements. The outside investor gets to choose the auditor and the auditor would cost the company $20 per year. The firm’s tax rate is 20%. The cost of capital is 13%.

What are the Initial Cash Flows in Year 0?

What are the Operating Cash Flows in Year 2?

What are the Terminal Cash Flows in Year 4? (I want only Terminal Cash Flows, not operating cash flows in year 4)

Show your work/inputs for partial credit. If you complete this in a spreadsheet, you can copy/paste your answer into the answer area

Answer 1

Macrs Table	Year 1	Year 2	Year 3	Year 4	Year 5	Year 6
Depreciation %	20.00%	32.00%	19.20%	11.52%	11.52%	5.76%
As depreciation of Building is not clearly mentioned, we are not applying depreciation on it.
Applying the depreciation for equipment only as 5 year MACRS is not for building category.
Land cost is a sunk cost as it is already purchased and has no alternative use.

Investment
Equipment	370
Installation	40
Shipping	50
Total Machine cost	460
total depreciation in 4 years	82.72%
Residual Value after 4 years	79.49
Building Value	1,000.00
Land value	200.00
Total asset value after 4 years	1,279.49
Salvage after 4 years	1,200.00
Capital loss	(79.49)
So no tax applicable on sale of Investment

Working Capital Investments
Increase in Inventory	17
Increase AR	24
Less Increase in AP	-49
Net increase in WC=	-8
Assming the WC increase will berequired in Year 1
as AR can only happenwhen sales atart

	Cash flow Details
	Details	Year 0	Year 1	Year 2	Year 3	Year 4
	Investments
	Equipment	-460
	Building	-1000
1	Total Investment	-1460
2	Increase in Working Capital		-8
	Cash flow from Operatins
	Sales		400	1200	2200	2500
	Cost of Goods sold @40% od sales		160	480	880	1000
	Production Labor @20% of sales		80	240	440	500
	Executives & Admin cost		260	260	260	260
	Property Tax+ Alcohol License		300	300	300	300
	Auditor fee		20	20	20	20
	One Time License & Legal fee Yr1		170
	Depreciation		92	147.2	88.32	52.992
	PBT		-682	-247.2	211.68	367.008
	Tax @20%		-136.4	-49.44	42.336	73.4016
	Post Tax Profit		-545.6	-197.76	169.344	293.6064
	Add back Depreciation		92	147.2	88.32	52.992
3	Total Operating Cash flow		-453.6	-50.56	257.664	346.5984
	Terminal Cash flow
	Working Capital Return					8
	Salvage Value from Investor					1200
4	Total Terminal Value					1208
		Year 0	Year 1	Year 2	Year 3	Year 4
	Total Cash Flows =1+2+3+4	(1,460.00)	(461.60)	(50.56)	257.66	1,554.60