Question

Fluor Enterprise is considering a 3-year project with an initial cost of $336,000. The project will not directly produce any sales but will reduce operating costs by $150,000 a year. The equipment is classified as MACRS 7-year property. The MACRS table values are .1429, .2449, .1749, .1249, .0893, .0892, .0893, and .0446 for Years 1 to 8, respectively. At the end of the project, the equipment will be sold for an estimated $151,000. The tax rate is 25 percent and the required return is 12 percent. An extra $22,000 of inventory will be required for the life of the project. What is the total cash flow for Year 3?

		$307,512.63
		$299,174.80
		$290,413.64
		$313,416.76
		$382,266.33

Answer 1

Book Value after 3 years = Cost of Project * [1 - Accumulated Depreciation Rates]

= $336,000 * [1 - (0.1429 + 0.2449 + 0.1749)]

= $336,000 * [1 - 0.5627] = $336,000 * 0.4373 = $146,932.80

After-tax salvage value = Salvage Value - [Tax Rate * (Salvage Value - Book value)]

= $151,000 - [0.25 * ($151,000 - $146,932.80)]

= $151,000 - [0.25 * $4,067.20]

= $151,000 - $1,016.80 = $149,983.20

Annual after-tax cash flow = [Annual Savings * (1 - t)] + [Depreciation * t]

= [$150,000 * (1 - 0.25)] + [$336,000 * 0.1749 * 0.25]

= $112,500 + $14,691.60 = $127,191.60

Total Cash Flow of year 3 = Annual OCF + After-tax salvage value + Recovery of inventory investment

= $127,191.60 + $149,983.20 + $22,000 = $299,174.80

Hence, 2nd Option is correct.