Jim Bo's currently has annual cash revenues of $240,000 and annual operating expenses of $185,000 including $35,000 in depreciation. The firm's marginal tax rate is 40 percent. A new cutting machine can be purchased for $120,000 that will increase revenues by $50,000 per year while operating expenses would increase to $205,000, including $42,000 in depreciation. Compute Jim Bo's annual incremental after-tax net cash flows.

Question

Quizplus · Accepted Answer

To compute the annual incremental after-tax net cash flows, we need to calculate the following:
- Incremental revenues = $50,000
- Incremental operating expenses = $205,000 - $185,000 = $20,000
- Depreciation expense = $42,000 - $35,000 = $7,000
- Tax savings due to depreciation = $7,000 x 40% = $2,800

Therefore, the incremental after-tax net cash flows are:
$50,000 - $20,000 - $7,000 + $2,800 = $25,800

However, since the question asks for annual incremental after-tax net cash flows, we need to divide this amount by the number of years of the investment. Assuming the machine has a useful life of 5 years, the annual incremental after-tax net cash flows are:
$25,800 / 5 = $5,160

Finally, we need to subtract the cost of the machine to determine the net present value (NPV) of the investment. The NPV is positive, indicating that the investment is financially feasible. The NPV is calculated as follows:
NPV = -$120,000 + $5,160 x (1 - 1/ (1 + 10%)^5) / 10%
NPV = -$120,000 + $19,628
NPV = $-100,372

Since the question only asks for the annual incremental after-tax net cash flows, the correct answer is A) $25,000.

Jim Bo's Currently Has Annual Cash Revenues of $240,000 and Annual