You are considering a new product line for your business. The new product line will require investment of $3,000,000 in new equipment. The equipment will be trucked to your facility at a cost of $25,000 and will require another $250,000 to modify that equipment for use in your facility. The new product line will require an increase in inventory of $200,000, an increase in accounts receivable of $100,000, but you believe you will be able to get suppliers to offer good credit terms which should increase accounts payable by $250,000, and you will obtain a short term bank loan, increasing notes payable by $25,000. The equipment falls into the 3- year MACRS class (rates of 33%, 45%, 15%, and 7% in years 1-4, respectively). You expect to operate the new product line for only three years and then shut down operations. The salvage value of the equipment at time three is expected to be $385,000. The new product line is expected to lead to sales of $1.4 million the first year with inflation of 3% per year for the following two years of operation and to incur annual operational costs of $500,000 in year 1 with the same inflation rate for subsequent years. Your business has a 35% tax rate and your WACC is 10%. Determine the time two cash flow.
You are considering a new product line for your business. The new product line will require investment of $3,000,000 in new equipment. The equipment will be trucked to your facility at a cost of $25,000 and will require another $250,000 to modify that equipment for use in your facility. The new product line will require an increase in inventory of $200,000, an increase in accounts receivable of $100,000, but you believe you will be able to get suppliers to offer good credit terms which should increase accounts payable by $250,000, and you will obtain a short term bank loan, increasing notes payable by $25,000. The equipment falls into the 3- year MACRS class (rates of 33%, 45%, 15%, and 7% in years 1-4, respectively). You expect to operate the new product line for only three years and then shut down operations. The salvage value of the equipment at time three is expected to be $385,000. The new product line is expected to lead to sales of $1.4 million the first year with inflation of 3% per year for the following two years of operation and to incur annual operational costs of $500,000 in year 1 with the same inflation rate for subsequent years. Your business has a 35% tax rate and your WACC is 10%. Determine the time two cash flow.
Chapter10: Capital Budgeting: Decision Criteria And Real Option
Section: Chapter Questions
Problem 19P
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Transcribed Image Text:You are considering a new product line for your business. The new product line will require investment of
$3,000,000 in new equipment. The equipment will be trucked to your facility at a cost of $25,000 and will
require another $250,000 to modify that equipment for use in your facility. The new product line will require
an increase in inventory of $200,000, an increase in accounts receivable of $100,000, but you believe you will
be able to get suppliers to offer good credit terms which should increase accounts payable by $250,000, and
you will obtain a short term bank loan, increasing notes payable by $25,000. The equipment falls into the 3-
year MACRS class (rates of 33%, 45%, 15%, and 7% in years 1-4, respectively). You expect to operate the new
product line for only three years and then shut down operations. The salvage value of the equipment at
time three is expected to be $385,000. The new product line is expected to lead to sales of $1.4 million the
first year with inflation of 3% per year for the following two years of operation and to incur annual
operational costs of $500,000 in year 1 with the same inflation rate for subsequent years. Your business has
a 35% tax rate and your WACC is 10%. Determine the time two cash flow.
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