Monocle Corporation is considering an investment in equipment for $50,000. Data related to the investment is as follows: Cash Flow before
Year Depreciation and Taxes
1 $25,000
2 25,000
3 25,000
4 25,000
Monocle uses the straight-line method of depreciation with no mid-year convention. In addition, its tax rate is 35 percent and the life of the equipment is four years with no salvage value. Cost of capital is 12 percent.
What is the annual cash flow for Year 1?

Question

Quizplus · Accepted Answer

The annual cash flow is calculated as follows: Cash Flow before Depreciation and Taxes - Depreciation - Taxes. Depreciation is $50,000/4 = $12,500. Taxable income is $25,000 - $12,500 = $12,500. Taxes are 35% of $12,500 = $4,375. Net income is $12,500 - $4,375 = $8,125. Add back depreciation to get cash flow: $8,125 + $12,500 = $20,625.

Monocle Corporation Is Considering an Investment in Equipment for $50,000