KLS, Inc. is considering a four-year project that requires the purchase of $2,435,700 worth of equipment. The equipment is in a 30% CCA class. The company will incur $112,500 in annual
Interest and taxes at the 34% marginal rate for this project. Sales are estimated at $1.5 million a year
With costs averaging $939,500 annually over the life of the project. What is the operating cash ﬂow
In year 4 of the project?

Question

Quizplus · Accepted Answer

To calculate the operating cash flow in year 4, we need to first calculate the annual depreciation, as it is a non-cash expense that affects operating cash flows.

The equipment is in a 30% CCA class, which means that the annual depreciation rate is 30% of the equipment cost. Therefore, the annual depreciation expense is:

$2,435,700 * 0.3 = $731,710

Next, we can calculate the earnings before interest and taxes (EBIT) for year 4:

Sales: $1.5 million 
Costs: $939,500 
Depreciation: $731,710

EBIT = $1.5 million - $939,500 - $731,710 = $-171,210

The negative EBIT means that the project is not profitable in year 4, but we still need to calculate the operating cash flow.

Operating cash flow = EBIT + Depreciation - Taxes

Taxes = (EBIT - Depreciation) * 0.34

Taxes = ($-171,210 - $731,710) * 0.34 = $-327,156

Operating cash flow = $-171,210 + $731,710 - $-327,156 = $511,656

Therefore, the answer is D, $511,656.

KLS, Inc Is Considering a Four-Year Project That Requires the Purchase