Chapter 12 - CHAPTER12 Analysis Relevantcashflows...

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12-1 CHAPTER 12 Cash Flow Estimation and Risk  Analysis Relevant cash flows Incorporating inflation Types of risk Risk Analysis

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12-2 Proposed Project Total depreciable cost Equipment: \$200,000 Shipping: \$10,000 Installation: \$30,000 Changes in working capital Inventories will rise by \$25,000 Accounts payable will rise by \$5,000 Effect on operations New sales: 100,000 units/year @ \$2/unit Variable cost: 60% of sales
12-3 Proposed Project Life of the project Economic life: 4 years Depreciable life: MACRS 3-year class Salvage value: \$25,000 Tax rate: 40% WACC: 10%

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12-4 Determining project value Estimate relevant cash flows Calculating annual operating cash flows. Identifying changes in working capital. Calculating terminal cash flows. 0 1 2 3 4 Initial OCF 1 OCF 2 OCF 3 OCF 4 Costs + Terminal CFs NCF 0 NCF 1 NCF 2 NCF 3 NCF 4
12-5 Initial year net cash flow Find Δ NOWC.  in inventories of \$25,000 Funded partly by an  in A/P of \$5,000 Δ NOWC = \$25,000 - \$5,000 = \$20,000 Combine Δ NOWC with initial costs. Equipment         -\$200,000    Installation       -40,000    Δ  NOWC       -20,000 Net CF 0 -\$260,000

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12-6 Determining annual  depreciation expense Year Rate   x  Basis Depr   1 0.33   x \$240 \$  79   2 0.45   x     240   108   3 0.15   x     240       36   4 0.07   x     240       17 1.00 \$240 Due to the MACRS ½-year convention, a  3-year asset is depreciated over 4 years.
12-7 Annual operating cash flows 1 2 3 4 Revenues 200.0 200.0 200.0 200.0 - Op Costs -120.0 -120.0 -120.0 -120.0 - Depr’n Expense -79.2 -108.0 -36.0 -16.8 Operating Income (BT) 0.8 -28.0 44.0 63.2 - Tax (40%) 0.3 -11.2 17.6 25.3 Operating Income (AT) 0.5 -16.8 26.4 37.9 + Depr’n Expense 79.2 108.0 36.0 16.8 Operating CF 79.7 91.2 62.4 54.7 (Thousands of dollars)

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12-8 Terminal net cash flow Recovery of NOWC \$20,000 Salvage value    25,000 Tax on SV (40%)   -10,000 Terminal CF \$35,000 Q. How is NOWC recovered? Q. Is there always a tax on SV? Q. Is the tax on SV ever a positive cash flow?
12-9 Should financing effects be  included in cash flows? No, dividends and interest expense  should not be included in the  analysis.  Financing effects have already been  taken into account by discounting  cash flows at the WACC of 10%. Deducting interest expense and  dividends would be “double  counting” financing costs.

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12-10 Should a \$50,000 improvement  cost from the previous year be  included in the analysis? No, the building improvement cost
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This note was uploaded on 01/15/2010 for the course PUBLIC Public rel taught by Professor Za during the Spring '09 term at Loyola Maryland.

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Chapter 12 - CHAPTER12 Analysis Relevantcashflows...

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