Mountain Recreation,Inc.is considering a new product line.The company currently manufactures several lines of snow skiing apparel.The new products,insulated ski bikinis,are expected to generate sales of $1.2 million per year for the next five years.They expect that during this five-year period,they will lose about $150,000 each year in sales on their existing lines of longer ski pants.The new line will require no additional equipment or space in the plant and can be produced in the same manner as the apparel products.The new project will,however,require that the company spend an additional $50,000 per year on insurance in case customers sue for frostbite.Also,a new marketing director would be hired to oversee the line at $75,000 per year in salary and benefits.Because of the different construction of the bikinis,an increase in inventory of $9,000 would be required initially.If the marginal tax rate is 35%,compute the incremental after-tax cash flows for years 1-5.

Question

Quizplus · Accepted Answer

Yearly incremental after-tax cash flows can be calculated as follows:

Year 1:
Sales Revenue: $1.2 million
Decrease in sales from existing lines: $150,000
Additional insurance costs: $50,000
New marketing director salary: $75,000
Incremental before-tax cash flow: $925,000
Marginal tax rate: 35%
Incremental after-tax cash flow: $601,250

Year 2-5:
Sales Revenue: $1.2 million
Decrease in sales from existing lines: $150,000
Additional insurance costs: $50,000
New marketing director salary: $75,000
Incremental before-tax cash flow: $925,000
Marginal tax rate: 35%
Incremental after-tax cash flow: $601,250

Therefore, the best choice is C, which has the correct calculation of the yearly incremental after-tax cash flows for years 1-5.