Question

A proposed new project has projected sales of $95,200, costs of $48,160, and depreciation of $3,360. The tax rate is 22 percent. Calculate operating cash flow using the four different approaches. The EBIT approach

Answer 1

Approach 1

“EBIT + Depreciation – Taxes” approach:

EBIT = Sales – Cost – Depreciation = $95,200 - $48,160 - $3,360 = $43,680

Tax = EBIT × Tax rate = $43,680 × 0.22 = $9,607

EBIT + Depreciation – Taxes = $43,680 + $3,360 - $9,607 = $37,433

Approach 2

Top-down approach = Sales – Cost – Tax

= $95,200 - $48,160 - $9,607

= $37,433

Approach 3

Tax-shield approach = (Sales – Cost) (1 – tax rate) + (Depreciation × tax rate)

= ($95,200 - $48,160) (1 – 0.22) + ($3,360 × 0.22)

= $36691.2 + $739.2

= $37430.4

Approach 4

Bottom-up approach = (Sales – Cost – Depreciation) (1 – tax rate) + Depreciation

= ($95,200 - $48,160 - $3,360 ) (1 – 0.22) + $3,360

= $34,070.4 + $$3,360

= $37,430.4