The manager of Malan Pty Ltd wants to buy a new machine to replace the one currently being used. The new machine will cost $100 000 with no disposal value at the end of a five-year useful life. The manager estimates that the machine will reduce annual operating costs by $30 000. Depreciation will be $20 000 per year for five years. The tax rate for each year is expected to be 20 per cent and the company has an after-tax hurdle rate of 12 per cent. What is the annual after-tax cash flow for years 1 to 5 associated with the purchase of the new machine?

Question

Quizplus · Accepted Answer

To calculate the annual after-tax cash flow for years 1 to 5, we need to subtract the annual depreciation and tax from the annual operating cost savings and then subtract the after-tax cost of the machine. 
Annual operating cost savings = $30,000
Annual depreciation = $20,000
Tax rate = 20%
After-tax cost of machine = $100,000 * (1 - 0.2) = $80,000

Year 1:
Cash flow = ($30,000 - $20,000) * (1 - 0.2) - $80,000 = $10,400

Year 2:
Cash flow = ($30,000 - $20,000) * (1 - 0.2) - $0 = $8,000

Year 3:
Cash flow = ($30,000 - $20,000) * (1 - 0.2) - $0 = $8,000

Year 4:
Cash flow = ($30,000 - $20,000) * (1 - 0.2) - $0 = $8,000

Year 5:
Cash flow = ($30,000 - $20,000) * (1 - 0.2) - $0 = $8,000

The sum of the annual after-tax cash flows for years 1 to 5 is $42,400. Divide this by 5 to get the average annual after-tax cash flow, which is $8,480.

Therefore, the closest answer is B. $28,000 - $8,480 = $19,520, which is approximately equal to the annual after-tax depreciation of $20,000.

The Manager of Malan Pty Ltd Wants to Buy a New