Excel Precision Inc. has spent $600,000 on research to develop a new computer ga

Question

Excel Precision Inc. has spent $600,000 on research to develop a new computer game. The firm is planning to spend $300,000 on a machine to produce the new game. Shipping and installation costs of the machine will be capitalized and depreciated; they total $60,000. The machine has an expected life of four years, and estimated $100,000 resale value, and falls under the MACRS 7-year class life. Revenue from the new game is expected to be $700,000 per year, with fixed costs of $375,000 per year. The firm has a tax rate of 34 percent, an opportunity cost of capital of 15 percent, and expects net working capital to increase by $250,000 at the beginning of the project. What will the cash flow be in year 4?

Explanation / Answer

Initial Cost R&D Cost $600,000 production Cost $300,000 Instalation Cost $60,000 Total capital cost $960,000 Add Working capital $250,000 Total Cash Outflow At 0 Year (A) $1,210,000 Particulars Year 1 Year 2 Year 3 Year 4 Revenue Every Year $700,000 $700,000 $700,000 $700,000 Less Fixed Cost $375,000 $375,000 $375,000 $375,000 Less Depreciation $137,184 $235,104 $167,904 $119,904 EBIT $187,816 $89,896 $157,096 $205,096 Less Tax @34% $63,857 $30,565 $53,413 $69,733 Net Income $123,959 $59,331 $103,683 $135,363 Dep Calculation Value of asset Dep Rate as per MACRS 7-year class life Depreciation Year 1 960000 14.29% $137,184 Year 2 960000 24.49% $235,104 Year 3 960000 17.49% $167,904 Year 4 960000 12.49% $119,904 Operatiing cash flow EBIT + Depreciation - Taxes Year 1 Year 2 Year 3 Year 4 EBIT $187,816 $89,896 $157,096 $205,096 Add Dep $137,184 $235,104 $167,904 $119,904 Less Taxes $63,857 $30,565 $53,413 $69,733 Net Income (OCF) $261,143 $294,435 $271,587 $255,267 Resale Value $0 $0 $0 $100,000 Net Income $261,143 $294,435 $271,587 $355,267 PV Factor @15% 0.870 0.756 0.658 0.572 Present Value of Inflow (B) $227,080 $222,635 $178,573 $203,125 Total Inflow (B) $831,414 Total Out Flow (A) $1,210,000 NPV ($378,586) Cash Flow in the year 4 $203,125

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