Fairfax Paint operates stores in Virginia. The firm is evaluating the Vienna pro
ID: 2757249 • Letter: F
Question
Fairfax Paint operates stores in Virginia. The firm is evaluating the Vienna project, which would involve opening a new store in Vienna. During year 1, Fairfax Paint would have total revenue of 356,000 dollars and total costs of 245,000 dollars if it pursues the Vienna project, and the firm would have total revenue of 310,000 dollars and total costs of 276,000 if it does not pursue the Vienna project. Depreciation taken by the firm would be 77,000 dollars if the firm pursues the project and 65,000 dollars if the firm does not pursue the project. The tax rate is 20 percent. What is the relevant operating cash flow (OCF) for year 1 of the Vienna project that Fairfax Paint should use in its NPV analysis of the Vienna project?
Explanation / Answer
Earning Ater Tax = Revenue-Cost-Depreciation = Net Income - Tax
Net Cash Flow = EAT + Depreciation
If project is pursued :
Earning Ater Tax = 356000 - 245000 - 77000 - 6800 = 27200
Net Cash Flow = 27200 + 77000 = 104200
If project is not pursued :
Earning Ater Tax = 310000 - 276000 - 65000 = - 31000 - (-6200) = -24800
Net Cash Flow = -24800 + 65000 = 40200
In this case there is a net loss, so there would be net savings, hence loss would be reduced.
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