XYZ would like to purchase a new machine. It will cost $50,000. Shipping and ins

Question

XYZ would like to purchase a new machine. It will cost $50,000. Shipping and installation charges for the equipment are expected to total $5,000. This equipment will be depreciated using straight line for its 5 year economic life to an estimated salvage value of zero. In order to use this equipment, XYZ estimates it will have to add $7,000 initially to its net working capital. If the machine is purchased, it will replace a machine with a book value of $10,000, the old machine can be sold for $25,000. During the first year of operations, the company expects total revenues to increase by $50,000, and from years 2 to 5 increase by $60,000 per year. The incremental operating expense is expected to be $10,000 in the first year and increase each year by 5%. The marginal tax rate is 40%. Find year two net cash flow.

Explanation / Answer

Net Cash flows in year 2

Increase in revenue= $60000

less :Incremental Operating cost= 10000*1.05=10500

EBIT 49500

less :Depriciation 55000/5= 11000

EBDIT 38500

NOPAT {EBDIT(1-t)} 38500(1-0.4)= $ 23100

Cash flow= NOPAT + DEPRICIATION= 23100+11000= $34100

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