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Temporary Housing Services (THS)is considering a project that involves setting up a temporary housing facility in an area recently damaged by a cyclone. THS will lease space in this facility to various agencies and groups providing relief services to the area. THS estimates that this project will initially cost $6 million to set up and will generate $22 million in revenues during its first and only year of operation (paid in one year). Operating expenses are expected to total $13 million during this year and depreciation expense will be another $4 million. THS will require no working capital for this investment. THS's marginal tax rate is 30%.
-Ignoring the original investment of $6 million, what is THS's free cash flow for the first and only year of operation?
A)$6.0 million
B)$6.75 million
C)$7.5 million
D)$8.0 million

Question

Quizplus · Accepted Answer

Free cash flow is calculated as Operating Cash flow - Capital Expenditures. In this case, THS's operating cash flow would be the revenues of $22 million minus operating expenses of $13 million and depreciation expense of $4 million, which equals $5 million. THS has no additional capital expenditures beyond the original investment of $6 million, so the free cash flow for the first and only year of operation is $5 million. Therefore, the best choice is C.

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