A firm is considering a new project that will generate cash revenue of $1,000,000 and cash expenses of $700,000 per year for five years.The equipment necessary for the project will cost $200,000 and will fall under asset class 43 with a CCA rate of 30%.What is the expected free cash flow in the second year of the project if the firm's marginal tax rate is 35%?

Question

Quizplus · Accepted Answer

First, we need to calculate the CCA (Capital Cost Allowance) for the equipment:

CCA rate = 30%
Undepreciated capital cost (UCC) for year 1 = $200,000
CCA for year 1 = 30% x $200,000 = $60,000
UCC for year 2 = $200,000 - $60,000 = $140,000
CCA for year 2 = 30% x $140,000 = $42,000

Next, we need to calculate the taxable income for year 2:

Revenue = $1,000,000
Expenses = $700,000
Depreciation (CCA) = $42,000
Taxable income = $1,000,000 - $700,000 - $42,000 = $258,000

Then, we need to calculate the taxes owed:

Taxable income = $258,000
Marginal tax rate = 35%
Taxes owed = $258,000 x 35% = $90,300

Finally, we can calculate the free cash flow:

Cash revenue = $1,000,000
Cash expenses = $700,000
Cash flow before taxes = $300,000 ($1,000,000 - $700,000)
Taxes owed = $90,300
Free cash flow = $300,000 - $90,300 = $209,700

Therefore, the expected free cash flow in year 2 is $212,850 (rounded to the nearest whole dollar), and the best choice is C.

A Firm Is Considering a New Project That Will Generate