Home Furnishings Express is expanding its product offerings to reach a wider ran

Question

Home Furnishings Express is expanding its product offerings to reach a wider range of customers. To do this, they must expand the showroom and buy new equipment.

The expansion project includes increasing the floor inventory by $430 and increasing its debt to suppliers by 70 percent of floor inventory. The company will spend $450 for a building contractor to expand the size of its showroom and $30 for new equipment. As part of the expansion plan, the company will be offering credit to its customers and thus expects accounts receivable to rise by $90. The new product will be sold for 4 years. The showroom and new equipment is being depreciated using the 5-year MACRS category (20, 32, 19, 12, 11, 6%). The new product should have annual sales of $200, $250, $200, $150, until the project ends in 4 years. The new product will reduce annual sales of existing products by $10, until the product ends in 4 years.   The cost of goods sold is 50% for both new and old products. Whiles sales will adjust after the first year, the firm believes that working capital will only affect initial cash flows and that working capital will return to normal levels after the project ends.

Over the past year, Home Furnishings Express has spent $17 studying the market for the new product. The accountants estimate that store Overhead will increase due to the addition of new back office personnel. This overhead will equal 10% of increased sales. A sales commission to our sales personnel is 8% of sales. Annual Fixed costs will increase by $7. If we did not sell the new product, we could rent the space to a vendor for $30 per year for the four years. Additionally, our annual property taxes will increase by $6 due to the expansion. After 4 years, we plan to sell the company. We estimate that we will receive an extra $100 for the store due to the extra sale’s space and equipment. The firm’s tax rate is 30%. The cost of capital is 12%.

What is the Initial Cash flow, the year 2 operating cash flows, and the the terminal cash flows? Show your work with labels for partial credit.

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Year 0 Cash Flows (3 points) = Year 2 Operating Cash Flows (4 points) = Terminal Cash Flows (I only want terminal cash flows, not total cash flows for year 4, 3 points) =

Explanation / Answer

Cash outflow Increase in Inventory 430 Less: Suppliers Credit (@70%) 301 Net Cashoutflow for Inventory 129 Cash for Showroom 450 Purchase of Equipment 30 Increase in Accounts Receivable 90 Initial Cash Outflows 699 Depreciation: Cash for Showroom 450 Purchase of Equipment 30 Total 480 Year % depreciation Depreciation Sales Cost of Goods Sold Gross Income Overhead Sales Commission Fixed Overhead Net Income Additional Income Total Income After Tax Profit Loss of Sale Cash Inflow 1 20 96.0 200 100 100 20 16 8 56 100 156 109.2 10 195.2 2 32 153.6 250 125 125 25 20 8 72 100 172 120.4 10 264.0 3 19 91.2 200 100 100 20 16 8 56 100 156 109.2 10 190.4 4 12 57.6 150 75 75 15 12 8 40 100 140 98 10 145.6 Total 398.4 800.0 400.0 400.0 80.0 64.0 32.0 224.0 400.0 624.0 436.8 40.0 795.2 Cost of Goods sold is 50% of Sales. Due to expansion a cash loss on existing sale will reduce cash inflows of $ 10 each year. So Cash inflows in each is = Income after Tax + Depreciation -cash loss PV Factor Present Year Cashflows Working Capital return Solvage Total Cashflow at 12% Value 0 -699 -699 1 -699 1 195.2 195.2 0.8929 174.29 2 264.0 264 0.7972 210.46 3 190.4 190.4 0.7118 135.52 4 145.6 219 81.6 446.2 0.6355 283.57 Net Present Value 104.84 Terminal Cashflows includes return of working Capital and solvage value Total Depreciation 398.4 Value of Assets 480 Solvage Value 81.6 Initial Cashoutflows 699 Operating Cashflows 795.2 Terminal Cashflows 300.6 (219 + 81.60)

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