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# Review Questions 7F11.pdf

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Lois King
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Review Questions 7 Textbook Page Questions 266 1, 2, 9 267 14, 15, 17 268 21, 24 270 34 Solutions 1. Net income = (\$74  42  10)  .35  (\$74  42  10) = \$22  \$7.7 = \$14.3 million  Revenues  cash expenses  taxes paid = \$74  \$42  \$7.7 = \$24.3 million  Net Profit + Depreciation = \$14.3 + \$10 = \$24.3 million  (Revenues  cash expansés)  (1  T) + T  Depreciation = \$32  .65 + .35  \$10 = \$24.3 million 2. a. NWC = Acct Receivable + Inventory  Acct Payable = \$1,500 + \$1,000  \$2,000= \$2,500 b. Cash flow = \$36,000  \$24,000 + \$2,500 = \$14,500 9. Incremental cash flows are: b. The cash that could have been realized by selling the art. d. The reduction in taxes paid. 14. Cash flow = profit – increase in inventory = \$10,000 – \$1,000 = \$9,000 15. NWC 2007= \$32 + \$25 – \$12 = \$45 million NWC 2008= \$35 + \$30 – \$25 = \$40 million Net working capital has decreased by \$5 million. 17. CCA calculation for the new capital investment (figures in thousands of dollars): End of year Year UCC CCA (25%) UCC 1 \$10,000 \$1,250 \$8,750 2 8,750 2,188 6,562 3 6,562 1,641 4,922 4 4,922 1,231 3,691 5 3,691 923 2,768 Since the project ends after 5 years, and the equipment is sold, the adjusted cost of disposal is \$4 million, which is deducted from the UCC asset class, that is 2.768 – 4 = -1.232 million. This results in a negative balance and recaptured depreciation. The after-tax cash flow from the sale = \$4 million – (.35 x \$1.232) – PV of CCA tax shield lost. This equals \$3.569 million – PV of tax shields lost. 21. a. Initial investment = \$50,000 + \$8,000 for working capital (20% of 40,000) = \$58,000 b. CCA for the first 5 years of the plant and equipment’s life is as follows: End of year Year UCC CCA (25%) UCC 1 \$50,000 \$6,250 \$43,750 2 43,750 10,938 32,812 3 32,812 8,203 24,609 4 24,609 6,152 18,457 5 18,457 4,614 13,843 (In thousands of dollars) Year: 0 1 2 3 4 5 Sales 40 30 20 10 0 Expenses 16 12 8 4 0 = Profit before tax 24 18 12 6 0 -tax @ 40% 9.6 7.2 4.8 2.4 0 = Operating Cash Flow 14.4 10.8 7.2 3.6 0 (excl. CCA tax shield) - 2 - For calculating project cash flows for each year, we will need to calculate the tax savings generated from the CCA tax shield. We do this by multiplying each year’s CCA by the firm’s tax rate (40% in this case). (in thousands of dollars) Year: 0 1 2 3 4 5 Capital investment -50.00 Initial investment in working capital - 8.00 Decrease in working capital 2.0 2.0 2.0 2.0 from previous year Operating Cash Flow 14.4 10.8 7.2 3.6 (excluding CCA tax shield) Total Cash Flow - 58.00 16.4 12.8 9.2 5.6 (excluding CCA tax shield) CCA tax shield (CCA x 0.40) 2.5 4.4 3.3 2.5 Total - 58.00 18.9 17.2 12.5 8.1 c. The project NPV is calculated in two phases. First, we calculate the present value from cash flows excluding the CCA tax shield: Year: 0 1 2 3 4 Total Cash Flow (excluding CCA tax shield) (58) 16.40 12.80 9.20 5.60 x Discount Factor (10%) 1.000 0.909 0.826 0.751 0.683 PV of total cash flow (excl. (58) 14.91 10.57 6.91
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