Down Under Boomerang, Inc., is considering a new three-year expansion project th

Question

Down Under Boomerang, Inc., is considering a new three-year expansion project that requires an initial fixed asset investment of $2.88 million. The fixed asset falls into the three-year MACRS class. The project is estimated to generate $2,140,000 in annual sales, with costs of $823,000. The project requires an initial investment in net working capital of $360,000, and the fixed asset will have a market value of $240,000 at the end of the project. If the tax rate is 35 percent and the required return is 10 percent, what is the project’s Year 1 net cash flow? Year 2? Year 3? (Use MACRS) (A negative answer should be indicated by a minus sign. Enter your answers in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

Explanation / Answer

Initial Fixed Assets Investment = $2,880,000
Initial NWC requirement = $360,000
Salvage Value of Fixed Asset = $240,000

Depreciation Year 1 = $2,880,000 * 33.33% = $959,904
Depreciation Year 2 = $2,880,000 * 44.45% = $1,280,160
Depreciation Year 3 = $2,880,000 * 14.81% = $426,528

Book Value at the end of Year 3 = $2,880,000 - $959,904 - $1,280,160 - $426,528
Book Value at the end of Year 3 = $213,408

After-tax Salvage Value = Salvage Value - (Salvage Value - Book Value)*tax
After-tax Salvage Value = $240,000 - ($240,000 - $213,408)*0.35
After-tax Salvage Value = $230,692.80

Year 0:

Net Cash Flows = -Initial Fixed Assets Investment - Initial NWC requirement
Net Cash Flows = -$2,880,000 - $360,000
Net Cash Flows = -$3,240,000

Year 1:

Net Cash Flows = (Sales - Costs)*(1-tax) + tax*Depreciation Year 1
Net Cash Flows = ($2,140,000 - $823,000)*(1-0.35) + 0.35*$959,904
Net Cash Flows = $1,192,016.40

Year 2:

Net Cash Flows = (Sales - Costs)*(1-tax) + tax*Depreciation Year 2
Net Cash Flows = ($2,140,000 - $823,000)*(1-0.35) + 0.35*$1,280,160
Net Cash Flows = $1,304,106

Year 3:

Net Cash Flows = (Sales - Costs)*(1-tax) + tax*Depreciation Year 3 + NWC recovered + After-tax Salvage Value
Net Cash Flows = ($2,140,000 - $823,000)*(1-0.35) + 0.35*$426,528 + $360,000 + $230,692.80
Net Cash Flows = $1,596,027.60

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