Question

The firm is looking to expand its operations by 10% of the firm’s net property, plant, and equipment. (Calculate this amount by taking 10% of the property, plant, and equipment figure that appears on the firm’s balance sheet.)

The estimated life of this new property, plant, and equipment will be 12 years. The salvage value of the equipment will be 5% of the property, plant and equipment’s cost.

The annual EBIT for this new project will be 18% of the project’s cost.

The company will use the straight-line method to depreciate this equipment. Also assume that there will be no increases in net working capital each year. Use 35% as the tax rate in this project.

• Your calculations that convert the project’s EBIT to free cash flow for the 12 years of the project. Help!

	Asset Description	Project Expansion
	Category	N/A
	Expansion Price (P)	500,000
	Salvage Value (Sn)	25,000
	Depreciation Period (n)	12
	Depreciation Method	SL	DB Factor	200%
Depreciation Schedule			[42]
Year	Depreciation	Cumulative	Book Value
1	39,583.33	39,583.33	460,416.67
2	39,583.33	79,166.67	420,833.33
3	39,583.33	118,750.00	381,250.00
4	39,583.33	158,333.33	341,666.67
5	39,583.33	197,916.67	302,083.33
6	39,583.33	237,500.00	262,500.00
7	39,583.33	277,083.33	222,916.67
8	39,583.33	316,666.67	183,333.33
9	39,583.33	356,250.00	143,750.00
10	39,583.33	395,833.33	104,166.67
11	39,583.33	435,416.67	64,583.33
12	39,583.33	475,000.00	25,000.00

Answer 1

Answer:

Given:

Project life = 12 years

Project expansion cost = $500,000

Annual EBIT = 18% of project cost = 18% * 500000 = $90,000

Tax rate = 35%

Salvage value = 5% of project cost =500000 * 5% = $25,000

Annual Depreciation = (500000 - 25000) / 12 = $39,583.33

Free Cash flows of 'Year 0', 'Year 1' to 'Year 11' and 'Year 12' are calculated as below: