Question

PROJECT CASH FLOW

Colsen Communications is trying to estimate the first-year cash flow (at Year 1) for a proposed project. The financial staff has collected the following information on the project:

Sales revenues	$5 million
Operating costs (excluding depreciation)	3.5 million
Depreciation	1 million
Interest expense	1 million

The company has a 40% tax rate, and its WACC is 12%.

Write out your answers completely. For example, 13 million should be entered as 13,000,000.

1. What is the project's cash flow for the first year (t = 1)? Round your answer to the nearest dollar.
   $
2. 
   
3. If this project would cannibalize other projects by $0.5 million of cash flow before taxes per year, how would this change your answer to part a? Round your answer to the nearest dollar.
   The firm's project's cash flow would now be $ .
4. 
   
5. Ignore part b. If the tax rate dropped to 35%, how would that change your answer to part a? Round your answer to the nearest dollar.
   The firm's project's cash flow would -Select-increasedecreaseItem 3 by $ .

Answer 1

a.Calculation of cash flow:

Sales revenues = $5,000,000

Less: Operating costs (excluding depreciation) = $3,500,000

Less: Depreciation = $1,000,000

Less: Interest expense = $1,000,000

Income before tax $(500,000)

Tax Savings @ 40% = $200,000

Income after tax = $(300,000)

Add: Depreciation (non-cash expense) = $1,000,000

Year 1 cash flows = $700,000

c.After taxes = 500,000(1-40%) = $300,000

After tax cash flow would now be = $700,000-300,000

= $400,000

e. Income before taxes = $(500,000)

Tax Savings @35% = $175,000

Income after Taxes = $(325,000)

Add: Depreciation = $1,000,000

Cash flow = $675,000

Hence, cash flow would decrease by $25,000