Question

Adidas will release a new line of shoes created by Kanye. New equipment to manufacture the shoes will cost $8 million, which will be depreciated by straight-line depreciation over six years. In addition, there will be $3 million spent on promoting the new shoe line in year one. It is expected that the shoe line will bring in revenues of $10 million per year for five years with production and support costs of $3 million per year. If Adidas' marginal tax rate is 40%, what is the incremental cash flow in the second year of this project?

Answer 1

Solution :-

Depreciation Every Year = $8,000,000 / 6 = $1,333,333.33

Now Taxable Income = Sales - Production Cost - Depreciation

= $10,000,000 - $3,000,000 - $1,333,333.33

= $5,666,666.67

Now Tax Expense = $5,666,666.67 * 40% = $2,266,666.67

Now After tax Income = $5,666,666.67 - $2,266,666.67 = $3,400,000

Now Incremental Cash flow in Year 2 = After tax Income +Depreciation

= $3,400,000 + $1,333,333.33

= $4,733,333.33

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