Page 190 - DMGT521_PROJECT_MANAGEMENT

Unit 11: Project Cash Flow

Net terminal cash flow $1,180 Notes
Operating CF +$780
5
Total year-five cash flow $1,960
For determining the tax benefit or loss, a benefit is received if the book value of the asset is more
than the salvage value, and a tax loss is recorded if the book value of the asset is less than the
salvage value.

11.2 Elements of a Cash Flow Stream

To evaluate a project, you must determine the relevant Cash Flows, which are the incremental
after-tax cash flows associated with the project. The Cash Flow Stream of a conventional Project-
a project which involves cash outflows followed by cash inflows comprises three basic
components (i) initial investment (ii) operating cash inflows, and (iii) terminal cash inflow.
The initial investment is the after tax cash outlay on capital expenditure and net working capital
when the project is set up. The operating cash inflows are the after tax cash inflows resulting
from the operations of the project during its economic life. The terminal cash inflow is the after
tax cash inflow resulting from the operations of the project during its economic life. The terminal
cash inflow is the after tax cash flow resulting from the liquidation of the project at the end of its
economic life. Figure 11.1 depicts on a time line the cash flows for an illustrative project, with
each of the cash flow components labelled.
Figure 11.1: Components of Cash Flow Statements

Time Horizon for Analysis: How is the time horizon for cash flow analysis usually established?
The time horizon for cash flow analysis is usually the minimum of the following:
Physical Life of the Plant: This refers to the period during which the plant remains in a physically
usable condition, i.e. the number of years the plant would perform the function for which it had
been acquired. This depends on the wear and tear which the plant is subject to. Suppliers of the
plant may provide information on the physical life under normal operating conditions. While
the concept of physical life may be useful for determining the depreciation charge, its is not very
useful for investment decision purposes.

Technological Life of the Plant: The technological life of a plant refers to the period of time for
which the present plant would not be rendered obsolete by a new plant. It is very difficult to
estimate the technological life because the pace of new developments is not governed by any

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