Johnson Communications is trying to estimate the first-year operating cash flow

Question

Johnson Communications is trying to estimate the first-year operating cash flow for a proposed project on which it has collected the following information:

$10.5 million

7.1 million

2.5 million

1.2 million

Johnson’s financial staff has also determined that this project would cannibalize one of the firm’s other projects by $1.1 million of cash flow (before taxes) per year. Johnson has a 35 percent tax rate, and its WACC is 9 percent. Calculate the project’s operating cash flow for Year 1.

Sales revenues

$10.5 million

Operating costs (excluding depreciation)

7.1 million

Depreciation

2.5 million

Interest expense

1.2 million

Explanation / Answer

Net Income = (Sales - Operating Cost - Depreciation - Cannibalization - Interest) x (1 - tax)

= (10.5 - 7.1 - 2.5 - 1.2 - 1.1) x (1 - 35%)

= -0.91 million

Operating Cash Flows = Net Income + Depreciation = -0.91 + 2.5 = 1.59 million

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