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Calculation Of Incremental And Free Cash Flows

Question

1. The Natural Candy Co. will release a new range of ‘healthy’ lollies containing antioxidants. New equipment to manufacture the lollies will cost $2million, which will be depreciated by straight-line depreciation over five years. In addition, there will be $5million spent on promoting the new line. It is expected that the range of lollies will bring in revenues of $4million per year for five years with production and support costs of $1.5 million per year. If the Natural Candy Co’s marginal tax rate is 30%, what are the incremental free cash flows in the second year of this project?

A. $1.03 million
B. $1.87 million
C. $2.47 million
D. $2.50 million

2. Temporary Housing Services Incorporated (THSI) is considering a project that involves setting up a temporary housing facility in an area recently damaged by a cyclone. THSI will lease space in this facility to various agencies and groups providing relief services to the area. THSI estimates that this project will initially cost $5million to set up and will generate $20 million in revenues during its first and only year in operation (paid in one year). Operating expenses are expected to total $12million during this year and depreciation expense will be another $3million. THSI will require no working capital for this investment. THSI’s tax rate is 30%.

Ignoring the original investment of $5million, what is THSI’s free cash flow for the first and only year of operation?

A. $5.0 million
B. $3.50 million
C. $8.0 million
D. $6.50 million

Summary

These short questions belong to Finance. The 1st question is about calculating incremental free cash flows with income tax rate given. And the 2nd question is about calculating free cash flow for first year of operation.

Total Word Count 90

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