Asked by grace kelly on Jun 24, 2024
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Podratz Corporation has provided the following information concerning a capital budgeting project: The company uses straight-line depreciation on all equipment. Assume cash flows occur at the end of the year except for the initial investments. The company takes income taxes into account in its capital budgeting.The total cash flow net of income taxes in year 3 is:
A) $61,500
B) $127,000
C) $85,000
D) $100,000
Initial Investments
The upfront sum of money invested in a project, business, or asset to start its operation.
Income Taxes
Taxes imposed by governments on the income generated by businesses and individuals within their jurisdiction.
- Calculate and discuss the total net cash flow, after income tax deductions, throughout the different annual periods of a project's timeline.
- Gain an understanding of the role depreciation plays in modifying cash flows and tax dues during the process of capital budgeting determinations.
Verified Answer
AI
ABAALA IKARAJun 26, 2024
Final Answer :
C
Explanation :
To calculate the total cash flow net of income taxes in year 3, we need to calculate the operating cash flow, taxes paid or saved, and the salvage value.
Year 3 operating cash flow:
$178,000 + $5,000 - $65,000 - $26,000 - $7,000 - $20,000 = $65,000
Taxes paid or saved:
($178,000 - $65,000) * 0.35 = $44,150 tax savings
Salvage value:
$30,000 pre-tax salvage value * (1 - 0.35) = $19,500 after-tax salvage value
Total cash flow net of income taxes in Year 3:
$65,000 + $44,150 + $19,500 = $128,650
However, we need to subtract the depreciation tax shield (which is the tax savings resulting from the depreciation expense) to calculate the final answer:
Depreciation tax shield:
$125,000/5 = $25,000 annual depreciation
$25,000 * 0.35 = $8,750 tax savings due to depreciation
$128,650 - $8,750 = $119,900
Therefore, the total cash flow net of income taxes in year 3 is $85,000 (Option C).
Year 3 operating cash flow:
$178,000 + $5,000 - $65,000 - $26,000 - $7,000 - $20,000 = $65,000
Taxes paid or saved:
($178,000 - $65,000) * 0.35 = $44,150 tax savings
Salvage value:
$30,000 pre-tax salvage value * (1 - 0.35) = $19,500 after-tax salvage value
Total cash flow net of income taxes in Year 3:
$65,000 + $44,150 + $19,500 = $128,650
However, we need to subtract the depreciation tax shield (which is the tax savings resulting from the depreciation expense) to calculate the final answer:
Depreciation tax shield:
$125,000/5 = $25,000 annual depreciation
$25,000 * 0.35 = $8,750 tax savings due to depreciation
$128,650 - $8,750 = $119,900
Therefore, the total cash flow net of income taxes in year 3 is $85,000 (Option C).
Learning Objectives
- Calculate and discuss the total net cash flow, after income tax deductions, throughout the different annual periods of a project's timeline.
- Gain an understanding of the role depreciation plays in modifying cash flows and tax dues during the process of capital budgeting determinations.
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