A new project will generate sales of $74.4 million, costs of $42.4 million, and

Question

A new project will generate sales of $74.4 million, costs of $42.4 million, and depreciation expense of $10.4 million in the coming year. The firm’s tax rate is 40%.

Calculate cash flow for the year by using all three methods: (a) adjusted accounting profits; (b) cash inflow/cash outflow analysis; and (c) the depreciation tax shield approach. (Enter your answers in millions rounded to 2 decimal places.)

A new project will generate sales of $74.4 million, costs of $42.4 million, and depreciation expense of $10.4 million in the coming year. The firm’s tax rate is 40%.

Explanation / Answer

Cash flow is a concept which is very significant in capital budgeting decision. Here you have to estimate how much net cash are flowing into the business from such project. Different methods are available for estimating. Here all such methods are used to estimate cash flows.

In this problem, firm will get $74.4 million from sale.It will incur 442.4 million as cost. Depreciation is $10.4 million. Remember no cash will flow for depreciation. It is treated as expenditure for using productive capacity of long term assets. It is eligible as operating cost under income tax guideline. So it reduces tax and improves cash inflow.

Calculation of cash flow using adjusted accounting profit approach:

------------------------------------------------------------------------------------------------------------------------------------

In cash flow method all cash inflows are totalled up. Then deduct all cash outflows to get cash flow. It is calculated below:

------------------------------------------------------------------------------------------------------------------------------------------

Last method is depreciation tax shield method. Here net profit is calculated without considering depreciation. Then tax benefit on depreciation is aded to get cash flow:

---------------------------------------------------------------------------------------------------------------------------------------------

Thus all merthods are providing same amount of cash flow of $23.36 million

Details Amount 1. Sales $74.4 million 2. Cost $42.4 million 3. Operating profit befores depreciation and tax [1-2] $32.0 million 4. Depreciation $10.4 million 5. Operating profit before tax [3-4] $21.6 million 6. Tax @40% [ 5 x 40%] [21.6 million x 40%] $8.64 million 7. Operating profit after tax [5-6] $12.96 million 8. Depreciation add back [7+4] [$12.96+$10.4] 423.36 million

Related Questions

Navigate

• Browse (All)
• Browse A
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.