Question

Incremental operating cash inflows???A firm is considering renewing its equipment to meet increased demand for its product. The cost of equipment modifications is $ 1.85 million plus $ 110 comma 000 in installation costs. The firm will depreciate the equipment modifications under? MACRS, using a? 5-year recovery period? (see table LOADING...?). Additional sales revenue from the renewal should amount to $ 1.18 million per? year, and additional operating expenses and other costs? (excluding depreciation and? interest) will amount to 40 % of the additional sales. The firm is subject to a tax rate of 40 %. ?(Note?: Answer the following questions for each of the next 6? years.) a. What incremental earnings before? depreciation, interest, and taxes will result from the? renewal? b. What incremental net operating profits after taxes will result from the? renewal? c. What incremental operating cash inflows will result from the? renewal? year 5: 20% 32% 19% 12% 12% 5%

Answer 1

a.	Incremental earnings before depreciation, interest, and taxes from the renewal.
		Year 1	Year 2	Year 3	Year 4	Year 5	Year 6
	Sales	1.18	1.18	1.18	1.18	1.18	1.18
	Operating expenses	(0.47)	(0.47)	(0.47)	(0.47)	(0.47)	(0.47)
	Earnings before depreciation, interest, and taxes	0.71	0.71	0.71	0.71	0.71	0.71
b.	Incremental net operating profits after taxes from the renewal
		Year 1	Year 2	Year 3	Year 4	Year 5	Year 6
	Sales	1.18	1.18	1.18	1.18	1.18	1.18
	Operating expenses @ 40% of the sales	(0.47)	(0.47)	(0.47)	(0.47)	(0.47)	(0.47)
	Earnings before depreciation, interest, and taxes	0.71	0.71	0.71	0.71	0.71	0.71
	Depreciation (as per table)	(0.39)	(0.63)	(0.37)	(0.24)	(0.24)	(0.10)
	Net operating befoe after taxes	0.32	0.08	0.34	0.47	0.47	0.61
	Tax @40%	(0.13)	(0.03)	(0.13)	(0.19)	(0.19)	(0.24)
	Net operating profits after taxes	0.19	0.05	0.20	0.28	0.28	0.37
c.	Incremental operating cash inflows
		Year 1	Year 2	Year 3	Year 4	Year 5	Year 6
	Net operating profits after taxes	0.19	0.05	0.20	0.28	0.28	0.37
	Add: Depreciation (non-cash item)	0.39	0.63	0.37	0.24	0.24	0.10
	operating cash inflows	0.58	0.68	0.57	0.52	0.52	0.46
	Note: Cost of modification including its installaton will be shown as cash outflow from investing activities