Question

Etonic Inc. is considering an investment of $377,000 in an asset with an economic life of 5 years. The firm estimates that the nominal annual cash revenues and expenses at the end of the first year will be $257,000 and $82,000, respectively. Both revenues and expenses will grow thereafter at the annual inflation rate of 3 percent. The company will use the straight-line method to depreciate its asset to zero over five years. The salvage value of the asset is estimated to be $57,000 in nominal terms at that time. The one-time net working capital investment of $16,000 is required immediately and will be recovered at the end of the project. The corporate tax rate is 34 percent.

  

What is the project’s total nominal cash flow from assets for each year? (A negative answers should be indicated by a minus sign. Do not round intermediate calculations and round your answers to the nearest whole number, e.g., 32.)

  

	Cash flow
Year 0	$
Year 1	$
Year 2	$
Year 3	$
Year 4	$
Year 5	$

Answer 1

First let us calculate the depreciation schedule:

Depreciation Schedule
Year	Opening balance	Cost	Depreciation	Closing balance
0		377000		377000
1	377000		75400	301600
2	301600		75400	226200
3	226200		75400	150800
4	150800		75400	75400
5	75400		75400	0

• Opening balance = previous year's closing balance
• closing balance=opening balance+cost-depreciation
• depreciation = cost/5 =377000/5=75400

CF calculation:

Year	Remark	0	1	2	3	4	5
Revenue	Grows at 3% every year		257000	264710	272651.3	280830.839	289255.7642
Expenses	Grows at 3% every year		82000	84460	86993.8	89603.614	92291.72242
Depreciation	As per depreciation schedule		75400	75400	75400	75400	75400
EBT	Revenue-Expenses-Depreciation		99600	104850	110257.5	115827.225	121564.0418
Taxes	@34% of EBT		33864	35649	37487.55	39381.2565	41331.7742
EAT	EBT-Taxes		65736	69201	72769.95	76445.9685	80232.26756
Depreciation	Added back as non-cash expense		75400	75400	75400	75400	75400
Investment	Fixed investment	-377000
WCINV	recovered in the year 5	-1600					16000
Salvage	Given						57000
Tax on Profit	0.34% x 57000						-19380
CF	EAT+Depreciation+Investment+WCINV+Salvage+Tax on profit	-378600	141136	144601	148169.95	151845.97	209252.27

• Wcinv is assumed to be recovered in the final year
• As the machine is completely depreciated the entire salvage value is a profit
• Tax on this profit is an outflow