Question

Project Cash Flows You are evaluating a project for The Ultimate recreational tennis racket, guaranteed to correct that wimpy backhand. You estimate the sales price of The Ultimate to be $400 per unit and sales volume to be 1,000 units in year 1; 1,250 units in year 2; and 1,325 units in year 3. The project has a three-year life. Variable costs amount to $225 per unit and fixed costs are $100,000 per year. The project requires an initial investment of $165,000 in assets, which can be depreciated using bonus depreciation. The actual market value of these assets at the end of year 3 is expected to be $35,000. NWC requirements at the beginning of each year will be approximately 20 percent of the projected sales during the coming year. The tax rate is 21 percent and the required return on the project is 10 percent. What will the cash flows for this project be?

Answer 1

The Ultimate Recreational Tennis racket
Capital Investment	165,000
Assuming 100% bonus depreciation in years 1
Year 1 Bonus depreciation	165,000
Tax rate	21%
Depreciation Tax shield @21% Year 1	34,650
Salvage value of Investment	35,000
Tax on Salvage @21%	7,350
After Tax Salvage value	27,650

Revneu and Costs estimate	Year 0	Year 1	Year 2	Year 3
Sales Volume		1,000	1,250	1,325
Sales Revenue @$400 sales price/unit		400,000	500,000	530,000
Less :Variable costs @$225/unit		225,000	281,250	298,125
Less: fixed cost		100,000	100,000	100,000
operating Income		75,000	118,750	131,875
Tax @21%		15,750	24,938	27,694
After Tax income		59,250	93,813	104,181
Net Working Capital Required(20% of sales of next year)	80,000	100,000	106,000	-
Incremental NWC	80,000	20,000	6,000	(106,000)

	Projcet Cash flows:
	Details	Year 0	Year 1	Year 2	Year 3
	Initial Investment
	Capital Investment	(165,000)
	Incremental NWC Investment	(80,000)	(20,000)	(6,000)
a	Total Capital +NWC Investment	(245,000)	(20,000)	(6,000)	-
	Cash flow from Operations
	After Tax incremental Income		59,250	93,813	104,181
	Add: Depreciation Tax shield		34,650
b	Cash flow from Operations		93,900	93,813	104,181
	Terminal Cash flow
	After Tax salvage value				27,650
	Return of NWC				106,000
c	Total Terminal Cash flow				133,650
d	Total Free Cash flow for project=a+b+c	(245,000)	73,900	87,813	237,831