Question

Meals on Wings Inc. supplies prepared meals for corporate aircraft (as opposed to public commercial airlines), and it needs to purchase new broilers. If the broilers are purchased, they will replace old broilers purchased 10 years ago for $150,000 and which are being depreciated on a straight line basis to a zero salvage value (15 year depreciable life). The old broilers can be sold for $60,000. The new broilers will cost $180,000 installed and will be depreciated using MACRS over their 5 year class life (20%, 32%, 19%, 12%, 11%, 6%); they will be sold at their book value at the end of the 5th year. The firm expects to increase its revenues by $60,000 per year if the new broilers are purchased, but cash expenses will also increase by $20,000 per year. The firm's cost of capital is 10 percent and its tax rate is 40 percent. What is the initial capital outlay at t=0? $110,500 $115,000 $124,000 $150,000 $152,500 What is the after-tax cash flow from operations at t=1? $34,400 $35,600 $41,200 $42,000 $51,600 What is the after-tax cash flow from operations at t=2? $34,800 $35,600 $43,040 $42,000 $51,600 What is the after-tax cash flow from operations at t=3? $33,680 $35,600 $41,200 $42,000 $51,600 What is the after-tax cash flow from operations at t=4? $28,640 $35,600 $41,200 $42,000 $51,600 What is the after-tax cash flow from operations at t=5? $27,920 $35,600 $41,200 $42,000 $51,600 What is the non-operating terminal cash flow at t=5? $7,800 $9,500 $10,800 $17,500 $20,000 What is the NPV of the project? $-6,457 $5,641 $11,751 $18,433 $21,155

Answer 1

Answer 1						Working - Calculation of change in depreciation
Calculation of initial capital outlay						Year	Depreciation allowance new broilers	Depreciation allowance old broliers	Change in depreciation
Purchase cost of new broliers	-$180,000.00					1	$36,000	$10,000	$26,000
Cash inflow from sale of old broilers	$56,000.00					2	$57,600	$10,000	$47,600
Initial Capital Outlay	-$124,000.00					3	$34,200	$10,000	$24,200
						4	$21,600	$10,000	$11,600
Initial Capital Outlay =	$124,000.00					5	$19,800	$10,000	$9,800
Working
The cash inflow from the sale of the old broilers						Working - The depreciation schedule for the new broilers using 5 year MACRS
Sale value as of now	$60,000.00					Year	Depreciable value	Depreciation rates	Depreciation
Less : Book value as of now	$50,000.00					1	$180,000	20%	$36,000
Gain on sale	$10,000.00					2	$180,000	32%	$57,600
Tax loss @ 40% of Gain	$4,000.00					3	$180,000	19.00%	$34,200
Cash Inflow [Sale value - Tax loss]	$56,000.00					4	$180,000	12.00%	$21,600
						5	$180,000	11.00%	$19,800
						6	$180,000	6.00%	$10,800
						Answer 2 to 6
						After tax cash flows from operations at t=1 , t=2 , t=3 ,t=4 , t=5
						Year	Depreciation Tax shield	After tax savings = Annual savings x(1-tax rate)	Cash flow
						t=1	$10,400	$24,000	$34,400
						t=2	$19,040	$24,000	$43,040
						t=3	$9,680	$24,000	$33,680
						t=4	$4,640	$24,000	$28,640
						t=5	$3,920	$24,000	$27,920
						Working
						Determination of depreciation tax shield on depreciation difference
						Year	Change in depreciation	Tax shield @ 40% of change
						1	$26,000	$10,400
						2	$47,600	$19,040
						3	$24,200	$9,680
						4	$11,600	$4,640
						5	$9,800	$3,920
						Answer 7
						Calculation of non-operating terminal cash flow at t=5
						Sale value of new machine		$10,800
						Less : Book value		$10,800
						Gain on sale of new machine		$0
						Tax @ 40% of Gain		$0
						Non-operating terminal cash flow		$10,800
						Answer 8 - Calculation of NPV
						Year	Cash flow	Discount factor @ 10%	Present Value
						0	-$124,000	1	-$124,000
						1	$34,400	0.909090909	$31,273
						2	$43,040	0.826446281	$35,570
						3	$33,680	0.751314801	$25,304
						4	$28,640	0.683013455	$19,562
						5	$38,720	0.620921323	$24,042
						NPV			$11,751
						NPV of the project		$11,751