The operating cash flows equal the after-tax benefit plus the tax savings from depreciation. In the case of a replacement project, you must take the difference between the additional depreciation from the new asset minus the lost depreciation from the old asset. The firm gave up $10,000 per year for of depreciation on the old asset for years 1 and 2 of the new asset’s life.
CF1 = (revenue − cost)1 × (1 − tax rate) + net depreciation1 × (tax rate)
((40,000 − 5,000) × 0.65) + [((0.33 × 100,000) − 10,000) × (0.35)] = $30,800
