Questions 18-20: Suppose you want to assumptions for this business: start a dry
ID: 2799761 • Letter: Q
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Questions 18-20: Suppose you want to assumptions for this business: start a dry cleaning business. You project the following relevant . It will cost you $150,000 in investment The equipment will last 10 years and can be depreciated to zero on a nt to purchase the necessary equipment to start this business purchase straight-line basis: .You expect your . You ex .At the end iness to last 10 years and believe you can generate $100,000 in revenue per year costs will be $65,000 per year, not including depreciation will of the 10 years you believe the salvage value of your equipment wilM be $15,000 You believe the appropriate discount rate for this project is 15%. imple, partial, pro-forma income statement for this project can be summarized as Your folows In $ per year: Revenue Costs Depreciation EBIT Taxes Net Income 100,000 65,000 18) What is the annual operating cash flow (OCF) from the project? a) 10,000Explanation / Answer
Annual Depreciation Expense =$150,000/10 =$15,000
a.) Annual Operating Cash Flow =$(100,000 - 65,000 - 15,000)x(1-0.40) + 15,000 =$20,000x0.60 +15,000=$27,000
Hence, Option-b is the right answer.
b.) If operating cash flow is $15,000
NPV =-100,000 + 15,000x{(1-(1+0.15)-10)/0.15} + 15,000/(1+0.15)10
= -100,000 + 75,281.53 + 3,707.77
= -21,010.69
Hence, Option-c is the right answer.
c.) If the discount rate declines, the NPV of the project will increase because this will increase the discounted value of future cash flows that will be realised from the business.
Hence, Option-a is the right answer.
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