The CEO of the company you are following has asked you to analyze the possibilit

Question

The CEO of the company you are following has asked you to analyze the possibility of acquiring a smaller business operation from another company.  
The purchase will cost $90 million in year zero and will also require $2 million of net working capital. The purchase can be depreciated using a four year straight-line depreciation to $10 million. Assume you can sell the business in four years for $15 million.   
The new business operation will generate $70 million in revenue each year, which will take $41 million in costs annually.  
Use the 35% marginal tax rate.  
(1) Compute the cash flows for the project

Explanation / Answer

year cash flow tax shield on dep total cash flow 0 -92 0 -92 1 18.85 7 25.85 2 18.85 7 25.85 3 18.85 7 25.85 4 35.85 7 42.85 a b a+b year cash flow tax shield on dep total cash flow 0 -92 0 -92 1 (70-41)*(1-0.35) 20*0.35 25.85 2 (70-41)*(1-0.35) 20*0.35 25.85 3 (70-41)*(1-0.35) 20*0.35 25.85 4 15+2+18.85 20*0.35 42.85

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