Question

To open a new store, Linton Tire Company plans to invest $250,000 in equipment expected to have a five -year useful life and no salvage value. Linton expects the new store to generate annual cash revenues of $322,000 and to incur annual cash operating expenses of $194,000. Linton's average income tax rate is 35 percent. The company uses straight-line depreciation. Required Determine the expected annual net cash inflow / outflow from operations for each of the first four years after Linton opens the new store. (Negative amounts should be indicated by a minus sign.) Net cash Inflow / Outflow Year 1 Year 2 Year 3 Year 4

Answer 1

Solution Required: Expected annual net cash inflow/outflow from operations Step-1: Computation of annual depreciation expense Cost of equipment $250,000 Salvage value $0 Depreciable cost ($250,000 - $0) $250,000 Expected useful life 5 Years Annual depreciation - Depreciable cost / Expected useful life = $250,000/ 5 Year = $50,000 Step-2: Computation of annual operating income for each of first four years 1 Year 1 $322,000 Year 2 $322,000 Year 3 $322,000 Year 4 $322,000 Annual cash revenue Less: Expenses Annual cash operating expenses Depreciation expense (Step-1) ($194,000) ($194,000) ($ 194,000) ($194,000) ($50,000) ($50,000) ($50,000) ($50,000) Earnings before tax Less: Income tax (35%) Net operating income $78,000 ($27,300) $50,700 $78,000 ($27,300) $50,700 $78,000 ($27,300) $50,700 $78,000 ($27,300) $50,700 Step-3: Computation of annual operating net cash inflow (outflow) for each of first four years Year 1 Year 2 Year 3 Year 4 Net operating income (step-2) $50,700 $50,700 $50,700 $50,700 Add: Non-cash expenses Depreciation expense (Step-1) $50,000 $50,000 $50,000 $50,000 Annual operating cash inflow (outflow) $100,700 $100,700 $100,700 $100,700 Year 1 Year 2 Year 3 Year 4 Net cash $100,700 $100,700 $100,700 $100,700 Inflow/Outflow Inflow Inflow Inflow Inflow