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P3 Operating cash flows. Strong Tool Partners has been considering purchasing a new lathe to replace a fully depreciated lathe that would otherwise last 5

P3 Operating cash flows. Strong Tool Partners has been considering purchasing a new lathe to replace a fully depreciated lathe that would otherwise last 5 more years. The new lathe is expected to have a 5-year life and depreciation charges of $2,000 in year 1; $3,200 in year 2; $1,900 in year 3; $1,200 in both year 4 and year 5; and $500 in year 6. The firm estimates the revenues and expenses (excluding depreciation and interest) for the new and the old lathes to be as shown in the table below. The firm is subject to a 40% tax rate.
New lathe Old lathe
Year Revenue Expenses (excluding depreciation and interest) Revenue Expenses (excluding depreciation and interest)
1 $40,000 $30,000 $35,000 $25,000
2 41,000 30,000 35,000 25,000
3 42,000 30,000 35,000 25,000
4 43,000 30,000 35,000 25,000
5 44,000 30,000 35,000 25,000
a. Calculate the operating cash flows associated with each lathe. (Note: Be sure to consider the depreciation in year 6.)
b. Calculate the operating cash flows resulting from the proposed lathe replacement.
c. Depict on a timeline the operating cash flows calculated in part b.
Answer - fill in the blue boxes below.
Table 4.2
Percentage by recovery year
Recovery year 3 years 5 years 7 years 10 years
1 33% 20% 14% 10%
2 45% 32% 25% 18% Tax rate
3 15% 19% 18% 14% 40%
4 7% 12% 12% 12%
5 12% 9% 9%
6 5% 9% 8%
7 9% 7%
8 4% 6%
9 6%
10 6%
11 4%
Totals 100% 100% 100% 100%
a. Calculate the operating cash flows associated with each lathe. (Note: Be sure to consider the depreciation in year 6.)
Year Revenue Expenses (excluding depreciation and interest) Profits before Depreciation and Taxes Depreciation Net Profits before Taxes Taxes Net Profits after Tax Operating Cash Flows
New Lathe
1 $40,000 $30,000 $2,000
2 $41,000 $30,000 $3,200
3 $42,000 $30,000 $1,900
4 $43,000 $30,000 $1,200
5 $44,000 $30,000 $1,200
6 $0 $0 $500
Old Lathe
1 $35,000 $25,000 $0
2 $35,000 $25,000 $0
3 $35,000 $25,000 $0
4 $35,000 $25,000 $0
5 $35,000 $25,000 $0
b. Calculate the operating cash flows resulting from the proposed lathe replacement.
Year New Lathe OCF Old Lathe OCF Replacement OCF
1 $0 $0
2 $0 $0
3 $0 $0
4 $0 $0
5 $0 $0
6 $0 $0
c. Depict on a timeline the operating cash flows calculated in part b.

0
1 2 3 4 5 6

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