Chapter 8. Using Discounted Cash Flow Analysis to Make Investment Decisions. Topics Covered. Discounted Cash Flows, Not Profits Incremental Cash Flows (Ping King Example) Treatment of Inflation Separate Investment & Financing Decisions Calculating Cash Flows Wednesday Example: TBA.
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Using Discounted Cash Flow Analysis to Make Investment Decisions
cash flow with project
cash flow without project

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Incremental Cash FlowsIMPORTANT
Ask yourself this question
Would the cash flow still exist if the project does not exist?
Year 0 1 2 3
Sales 6400 9600 4860
WC need 640 960 486 0
WC Chg. 640 320 (474) (486)
Year 1 2 3
Unit Sales 10,000 15,000 9,000
$/Unit $640 $640 $540
VC/Unit $350 $350 $350
Sales($000) 6,400 9,600 4,860
Variable Costs 3,500 5,250 3,150
Fixed Costs 300 300 300
Depreciation 900 900 900
Pretax Profit 1,700 3,150 510
Tax(40%) 680 1,260 204
Net Profit 1,020 1,890 306
+Depreciation 900 900 900
Operating Cash Flow 1,920 2,790 1,206
Year 0 1 2 3
Cap Inv (4500) 1200
WC Inv (640) (320) 474 486
Oper CF 1920 2790 1206
Total CF (5140) 1600 3264 2892
CF0 C01 C02 C03
NPV at 18% = 320.247 or $320,247
IRR = 21.5%
Year Orig 1 Change New 1
Revenue($000) 6,400 (1,000) 5,400
Variable Costs 3,500 (500) 3,000
Fixed Costs 300 300
Depreciation 900 900
Pretax Profit 1,700 (500) 1,200
Tax(40%) 680 (200) 480
Net Profit 1,020 (300) 720
+Depreciation 900 900
Oper Cash Flow 1,920 (300) 1,620
INFLATION RULE
Dep Diff in PV of
Year Dep% M Dep SL Dep Diff TaxShd TaxShd
1 20.00 900,000 900,000 0 0 0
2 32.00 1,440,000 900,000 540,000 216,000 155,128
3 19.20 864,000 900,000 (36,000) (14,400) (8,764)
4 11.52 518,400 900,000 146,364
5 11.52 518,400 900,000
6 5.76 259,200
Year 1 2 3
Unit Sales 10,000 15,000 9,000
$/Unit $640 $640 $540
VC/Unit $350 $350 $350
Sales($000) 6,400 9,600 4,860
Variable Costs 3,500 5,250 3,150
Fixed Costs 300 300 300
Depreciation 900 1,440 864
Pretax Profit 1,700 2,610 546
Tax(40%) 680 1,044 218
Net Profit 1,020 1,566 328
+Depreciation 900 1,440 864
Operating Cash Flow 1,920 3,006 1,192
WC Cash Flow (320) 474 486
AfterTax SV 998
Total Cash Flow 1,600 3,480 2,676
Initial CF (T=0) = 5140
NPV at 18% = $343,910 vs. $320,247 under straightline depreciation