Incremental Cash Flows

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Business, Financial Markets and Services Year 4 Superior Manufacturing is thinking of launching a new product. The company expects to sell \$950,000 of the new product in the first year and \$1,500,000 each year thereafter Superior Manufacturing is thinking of launching a new product. The company expects to sell \$950,000 of the new product in the first year and \$1,500,000 each year thereafter. Direct costs including labor and materials will be 55% of sales. Indirect incremental costs are estimated at \$80,000 a year. The project requires a new plant that will cost a total of \$1,000,000, which will be depreciated straight line over the next five years. The new line will also require an additional net investment in inventory and…show more content…
The company expects to sell \$950,000 of the new product in the first year and \$1,500,000 each year thereafter Solution Prepare a statement showing the incremental cash flows for this project over an 8-year period. The statement is in the attached excel file. The sales are as given. The direct costs have been taken as 55% of sales. The indirect incremental costs are \$80,000 per year. The plant costs \$1,000,000 and straight line depreciation over 5 years is 1,000,000/5=200,000. The investment in Inventory and Receivables is \$200,000 and this investment is recovered in the last year. The incremental cash flows (after tax) are in row 19. Calculate the Payback Period (P/B) and the NPV for the project. The Payback Period is the time taken to recover the initial investment, This is found by adding the cash inflows to the initial investment till the sum becomes zero. In Row 21, the cash inflows are added to the initial investment and we find that at the end of 2 years there is is still \$5,250 to be recovered. In the third year the total cash inflow is 456,750 and the amount needed is 5,250. We find the number of days taken to generate 5,250. The formula used is to find the per day generation which is 456,750/365 and then divide 5,250 with this figure. This gives us 4 days. The payback period comes to 3 years and 4 days. The NPV is found by dicsounting the cashflows at the dicounting rate of 10% and then adding