Innovative Inc. is experiencing a boom for the products it has introduced recently. The estimated annual sales projected for the next five years are given in the following table. The current capacity is equivalent to only $100 million sales. The company is considering the alternative of expanding capacity to an equivalent of $250 million sales. Assume a 25 percent pretax profit margin. What is the increase in total pretax cash flow (summed over all years) that would be enjoyed because of the expansion?
A) less than or equal to $40 million
B) more than $40 million but less than or equal to $70 million
C) more than $70 million but less than or equal to $100 million
D) more than $100 million

Question

Innovative Inc. is experiencing a boom for the products it has introduced recently. The estimated annual sales projected for the next five years are given in the following table. The current capacity is equivalent to only $100 million sales. The company is considering the alternative of expanding capacity to an equivalent of $250 million sales. Assume a 25 percent pretax profit margin. What is the increase in total pretax cash flow (summed over all years) that would be enjoyed because of the expansion? 
A) less than or equal to $40 million 
B) more than $40 million but less than or equal to $70 million 
C) more than $70 million but less than or equal to $100 million 
D) more than $100 million

Quizplus · Accepted Answer

To calculate the increase in total pretax cash flow, we need to find the difference between the cash flow with the current capacity and the cash flow with the expanded capacity.

Current capacity cash flow (for five years) = (0.25 * 100) * 5 = $125 million 
Expanded capacity cash flow (for five years) = (0.25 * 250) * 5 = $312.5 million

Increase in total pretax cash flow = Expanded capacity cash flow - Current capacity cash flow 
= $312.5 million - $125 million 
= $187.5 million

Therefore, the increase in total pretax cash flow that would be enjoyed because of the expansion is more than $70 million but less than or equal to $100 million, making option C the correct answer.