In: Finance
Dreamtime Jewellers Limited (DJL) is a small network of jewellery stores and DJL is considering building a new store. The new store costs $2.5 million and managers plan to partly fund the store with a $1 million five-year bank loan.
In addition, DJL must spend $150,000 on excavation before they build the new store. Because this expense will reduce the new store’s profitability, managers have suggested that the excavation expense be spread out equally over the five-year analysis period.
The ATO states that excavation qualifies as a business expense in the year incurred. DJL has already spent $100,000 conducting market research to determine the most lucrative location for a new store.
If the directors approve the new store DJL anticipates that it will require an additional $400,000 of inventory today on top of the existing level of $1.5 million, and accounts payable will increase by $270,000. The accounts receivable balance will increase from the current level of $5.4 million to $6.2 million if the new store proceeds.
DJL must dispose of $120,000 of redundant jewellery equipment today if the new store is approved. The equipment initially cost $300,000 four years ago and is fully depreciated for tax purposes. Assume the company tax rate is 30%.
What are the 'cash flows at the start'?
The question requires to calculate the cash flows at the start.
Given | ||
Total Project Funding Requirement (Not actual cash received) | $2.5 Mn | |
Inflow | Bank Loan Rcd | $10,00,000 |
Outflow | Excavation Exp Incurred At Start | $150,000 |
Outflow | Market Research Cost | $100,000 |
Outflow | Cost of Addnl Inventory Purchase | $400,000 |
Inflow | Increase in Accounts Payable i.e. Cash Comes in as payment is delayed | $270,000 |
Outflow | Increase in Accounts Receivable i.e. Cash outflow is delayed (Reduces cash in hand) (6.2 Mn - 5.4 Mn) | $800,000 |
Inflow | Proceeds from sale of Jewellery Equipment (Fully depreciated i.e. full amount subject to tax) | $120,000 |
Tax Rate | 30% | |
Outflow | Tax on sale on Jewellery Equipment ($120,000*30%) | $36,000 |
Net Cashflow = Total Inflows - Total Outflows | ||
Net Cashflow = 10,00,000 - 150,000 - 100,000 - 400,000 + 270,000 - 800,000 - 36000 + 120,000 | ||
Net Cashflow = -96,000 (Outflow) | ||
If we assume that at the start they managed to raise entire $2.5 Mn, then the Net Cash at start = $2.5 Mn - $96,000 | ||
Net Cash Flow at start in this case = $2,404,000 | ||