A 4-year project is expected to generate sales of $1,500, $1,800, $1,800, and $1,650 in year 1, year 2, year 3, and year 4 respectively. The working capital requirement is estimated to be: 10% of sales in cash, 30% of sales in account receivables, and 40% of sales in inventory. The account payable related to the project is estimated to be 50% of inventory. Inventory is expected to be liquidated at 90% of the book value at the end of the project. The relevant tax rate is 35%.
(a) What is the cash flow related to working capital (CFWC) in Year 0?
(b) What is the cumulative investment in net working capital (i.e., the book balance of net working capital) at the end of Year 2?
(c) What is the net recovery of the investment in net working capital at the end of the project?
The solution explains the cash flows relating to working capital in capital budgeting decisions.