A proposed ten-year project has the first year sales revenue and costs projected at $300,000 and $100,000, respectively.Sales revenue is expected to grow at 3% per year, while the costs will grow at 5% per year.The firm's marginal tax rate is 35% and required return is 9%.What is the present value of the after-tax operating cash flows generated by the project?

Question

Quizplus · Accepted Answer

The present value of the after-tax operating cash flows can be calculated using the formula for the present value of a growing annuity. First, calculate the initial after-tax operating cash flow: Year 1 after-tax operating cash flow = (Sales revenue - Costs) * (1 - Tax rate) = ($300,000 - $100,000) * (1 - 0.35) = $200,000 * 0.65 = $130,000. The growth rate of the cash flow is the difference between the sales growth rate and the cost growth rate, which is 3% - 5% = -2%. However, since costs grow faster than revenue, this calculation needs to be adjusted to reflect the actual growth in after-tax cash flow, which is not straightforwardly -2%. The correct approach involves calculating the present value of the cash flows considering the growth rates of both revenue and costs and the tax impact, using the formula for the present value of a growing perpetuity or annuity, given the project's finite life. The calculation involves determining the net cash flow each year, adjusting for taxes, and then discounting those cash flows back to their present value at the required return rate. The correct answer, given the complexity of the calculation and the information provided, is found through applying financial formulas or a financial calculator, leading to the correct choice of $898,126.

A Proposed Ten-Year Project Has the First Year Sales Revenue