Question

6. Incremental costs Initial and terminal cash flow Aa Aa Consider the case of Marston Manufacturing Company Marston Manufacturing Company is considering a project that requires an investment in new equipment of $4,200,000, with an additional $210,000 in shipping and installation costs. Marston estimates that its accounts receivable and inventories need to increase by $840,000 to support the new project, some of which is financed by a $336,000 increase in spontaneous liabilities (accounts payable and accruals) The total cost of Marston's new equipment is the and consists of the price of the new equipment plus In contrast, Marston's initial net investment outlay is Suppose Marston's new equipment is expected to sell for $1,200,000 at the end of its four-year useful life, and at the same time, the firm expects to recover all of its net operating working capital investment. The company chose to use straight-line depreciation, and the new equipment was fully depreciated by the end of its useful life. If the firm's tax rate is 40%, what is the project's total termination cash flow? O $720,000 O $1,224,000 $1,200,000 O $984,000

Answer 1

Total Cost of new equipment is $4,200,000 + $210,000 = $4,410,000

And consists of price of new equipment plus the shipping and installation costs

Initial Net Investment Outlay is = Price of equipment + Net working capital investment

= $4,410,000 + $840,000 - $336,000

= $4,914,000

Termination Cash Flows:

Sale Price of Equipment = $1,200,000

Written Down Value = 0 (since fully depreciated)

Profit on Sale = $1,200,000

Tax on Profit @40% = $480,000

Net Sale Proceeds = $720,000

Working Capital recovered = $504,000

Terminal Cash Flow = $1,224,000