Question 10 Your firm is considering an overseas expansion. Below is the informa

Question

Question 10

Your firm is considering an overseas expansion. Below is the information that you have been given regarding the project: Initial Equipment Cost: $100m. Life of System: 5 years. Depreciation method: Straight line Depreciation. Expected overseas sales: $110m per year. Raw materials: $75m per year. Salaries for new workers: $25m per year. Net Working Capital necessary for plant to operate effectively: $25m (assume that this investment is required at the start of the project and is recovered when the plant shuts down after 5 years.) Marginal Tax Rate on income and capital gains: 40% Expected salvage value of equipment after 5 years: $30m. What will be the cash flows of this project in millions?

-100/9.1/9.1/9.1/9.1/28.6

-125/26.5/26.5/26.5/26.5/71

-125/32/32/32/32/75

-125/26/26/26/26/69

-100/26.5/26.5/26.5/26.5/81.5

Explanation / Answer

All figures are in million

Year 1-4 5 Expected Sales a $110.00 $110.00 Raw Materials b $75.00 $75.00 Salary c $25.00 $25.00 Net Profit before Tax d=a-b-c $10.00 $10.00 Less: Taxes at 40% e = d*0.4 $4.00 $4.00 Profit after Tax f=d-e $6.00 $6.00 Depreciation Tax Shield g=(100/5)*0.4 $8.00 $8.00 Free Cashflow h=f+g $14.00 $14.00 Reversal of Working Capital i $0.00 $25.00 Net of Tax proceeds of Machine j - Note 1 $0.00 $18.00 Total Cash Inflow k=h+i+j $14.00 $57.00 Note 1 Sale Proceeds from Machinery a $30.00 Book Value b $0.00 Expected Profit c=a-b $30.00 Tax on Profit at 40% d=c*0.40 $12.00 Net of Tax proceeds of Machine e=a-d $18.00 Project Inception Cashflows Cost of Machine a $100.00 Working Capital Requirement b $25.00 Total c=a+b $125.00 Cashflows are -125/14/14/14/14/57

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