project is accepted but that will not occur if the investment is rejected o The

Project is accepted but that will not occur if the

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project is accepted, but that will not occur if the investment is rejected o The cash flows of the firm with the project minus the cash flows of the firm without the project o Don’t factor in sunk costs Type of Incremental Cash Flows o Initial Investment Cash Flows
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Includes the purchase price of an asset, installation and delivery costs, and any investment for needed additions to net working capital tied to the project ONE TIME COSTS o Operating Cash Flows Includes revenues and expenses, taxes (including CFs due to tax deductible depreciation expense), opportunity cots and externalities REACUURING COSTS o Shut Down Cash Flows Include after tax salvage value and reduction in net working capital ONE TIME UNIQUE – SALE Measure Incremental Cash Flows o Measure cash flows that change if a project is undertaken o Do not include sunk costs o Do not include allocation of existing overhead Do not include an accounting cash flow when doing an analysis Do include NEW overhead o Do not subtract lost sales of other products if they occur only if this project is accepted If new reduces old sales, subtract (New Howitzer vs. Howitzer Deluxe) Called an externality o Include cost savings as a positive cash flow Happen a lot with modernization Illustration of Project Cash Flows o Initial Investment Cash Flow Operating CF Operating CF Shut Down Cash Flow Estimating Cash Flows o All events that happen at the beginning of the project o A increase in Net Working Capital (NWC) is considered an investment need (cash outflow) o See example in slides Working Capital = Current Assets NWC = Current Assets – Current Liabilities Recognize Gain = pay tax Recognize Loss = pay no tax Estimating Cash Flows – Initial Investment o See example in slides o Depreciable Basis = purchase price + set up and delivery costs o Investing in an asset is not a taxable event because cash (asset) decreases but another asset increases so it’s a wash transaction o *Training is an expense, decreases taxable income o Income Sheet = taxes
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o Balance Sheet = no taxes Estimating Cash Flows – Operating Cash Flows o See example in slides o Increase in revenue and decrease in costs are BOTH positive cash flows MACRS Depreciation Expense o Half year convention Assumes asset out in place in the middle of year Can deduct ½ year expense in first and last year Three year life would get deductions spread over four years o MACRS table Provides percentage deductions for different lives Don’t memorize, will be given o Depreciable Basis = purchase price + shipping and installation What we use for the depreciation expense calculation Project Operating Cash Flows o See example in slides + Increased Revenue + Decreased Expenses - Increased Depr. Expense = Change in EBIT - Tax (x rate) = Change in NOPAT + Increased Depr. Expense = Net Operating Cash Flow o We only care about cash flows o NOPAT = Net Operating Profit after Tax o +/- increased depreciation expense because not a cash flow so it is a wash o Trying to get to the tax consequences of the project o
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