FIN-3030, Final Exam, F17, Zaid Questions 18-20: Suppose assumptions for this bu
ID: 2799778 • Letter: F
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FIN-3030, Final Exam, F17, Zaid Questions 18-20: Suppose assumptions for this business: you want to start a dry cleaning business. You project the following relevant It will cost you $150,000 in investment to purchase the necessary equipment to start this business equipment will last 10 years and can be depreciated to zero on a straight-line basis You expect this business to last 10 years and believe you can generate $100,000 in revenue per year You expect your costs will be $65,000 per year, not including depreciation You expect your tax rate to be 40%; * " At the end of the 10 years you believe the salvage value of your equipment will be $15,000 · You believe the appropriate discount rate for this project is 15%. Your simple, partial, pro-forma income statement for this project can be summarized as follows 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) b) c) d) 10,000k oCF s 20,000 20,000Explanation / Answer
a.) Annual Depreciation Expense =$150,000/10 =$15,000
Annual Operating Cash Flow =$(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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