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Exam 3: Financial Statements, Cash Flow, and Taxes

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Question 31

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Scranton Shipyards has $20 million in total invested operating capital, and its WACC is 10%. Scranton has the following income statement: \begin{array}{c}\begin{array}{lll}\text {Sales}\\\text {Operating costs}\\\text {Operating income \{\mathrm{EBIT}\} }\\\text {Interest expense}\\\text {Earnings before taxes \{EBT\}}\\\text {Taxes \( \{40 \%\} \) }\\\text {Net income}\end{array}\begin{array}{l}\$ 10.0 \text { million } \\\quad 6.0 \text { million } \\\hline 4.0 \text { million } \\2.0 \text { million } \\\hline \$ 2.0 \text { million } \\0.8 \text { million } \\\hline\$ 1.2 \text { million } \end{array} \end{array} What is Scranton's EVA?

A) $400,000
B) $420,000
C) $441,000
D) $463,050
E) $486,203

F) A) and B)
G) A) and C)

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Question 32

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On 12/31/13, Hite Industries reported retained earnings of $525,000 on its balance sheet, and it reported that it had $135,000 of net income during the year. On its previous balance sheet, at 12/31/12, the company had reported $445,000 of retained earnings. No shares were repurchased during 2013. How much in dividends did the firm pay during 2013?

A) $49,638
B) $52,250
C) $55,000
D) $57,750
E) $60,638

F) B) and E)
G) D) and E)

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Question 33

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Consider the following balance sheet, for Games Inc. Because Games has $800,000 of retained earnings, we know that the company would be able to pay cash to buy an asset with a cost of $200,000. $\begin{array} { l r l r } \text { Cash } & \$ 50,000 & \text { Accounts payable } & \$ 100,000 \\\text { Inventory } & 200,000 & \text { Accruals } & \underline{100,000} \\\text { Accounts receivable } & \underline{250,000} & \text { Total CL } & \underline{\$ 200,000} \\\text { Total CA } & \$ \underline{500,000} & \text { Long-term debt } & 200,000 \\\text { Net fixed assets } & \$ 900,000 & \text { Common stock } & 200,000 \\& & \text { Retained earnings } & 800,000 \\\text { Total assets } & \$ 1,400,000 & \text { Total L \& E } & \$ 1,400,000 \\\hline\end{array}$

Which of the following items cannot be found on a firm's balance sheet under current liabilities?

Which of the following statements is most correct?

A company with a 15% tax rate buys preferred stock in another company. The preferred stock has a before-tax yield of 8%. What is the preferred stock's after-tax return?

Last year, Stewart-Stern Inc. reported $11,250 of sales, $4,500 of operating costs other than depreciation, and $1,250 of depreciation. The company had $3,500 of bonds outstanding that carry a 6.5% interest rate, and its federal-plus-state income tax rate was 35%. During last year, the firm had expenditures on fixed assets and net operating working capital that totaled $2,000. These expenditures were necessary for it to sustain operations and generate future sales and cash flows. This year's data are expected to remain unchanged except for one item, depreciation, which is expected to increase by $725. By how much will the depreciation change cause (1) the firm's net income and (2) its free cash flow to change? Note that the company uses the same depreciation for tax and stockholder reporting purposes.

EBIT stands for earnings before interest and taxes, and it is often called "operating income."

Companies typically provide four basic financial statements: the fixed income statement, the current income statement, the balance sheet, and the cash flow statement.

A start-up firm is making an initial investment in new plant and equipment. Assume that currently its equipment must be depreciated on a straight-line basis over 10 years, but Congress is considering legislation that would require the firm to depreciate the equipment over 7 years. If the legislation becomes law, which of the following would occur in the year following the change?

A 7-year municipal bond yields 4.8%. Your marginal tax rate (including state and federal taxes) is 27%. What interest rate on a 7-year corporate bond of equal risk would provide you with the same after-tax return?

Which of the following would be most likely to occur in the year after Congress, in an effort to increase tax revenue, passed legislation that forced companies to depreciate equipment over longer lives? Assume that sales, other operating costs, and tax rates are not affected, and assume that the same depreciation method is used for tax and stockholder reporting purposes.

Over the years, O'Brien Corporation's stockholders have provided $20,000,000 of capital, when they purchased new allowed management to retain some of the firm's earnings. The firm now has 1,000,000 shares of common stock out a price of $38.50 per share. How much value has O'Brien's management added to stockholder wealth over the year O'Brien's MVA?

Which of the following factors could explain why Michigan Energy's cash balance increased even though it had a negative cash flow last year?

A corporate bond currently yields 8.5%. Municipal bonds with the same risk, maturity, and liquidity currently yield 5.5%. At what tax rate would investors be indifferent between the two bonds?

West Corporation has $50,000 that it plans to invest in marketable securities. The corporation is choosing between the following three equally risky securities: Alachua County tax-free municipal bonds yielding 8.5%; Exxon Mobil bonds yielding 10.5%; and GM preferred stock with a dividend yield of 9.25%. West's corporate tax rate is 35%. What is the after-tax return on the best investment alternative? (Assume the company chooses on the basis of after-tax returns.)

Which of the following statements is CORRECT?

Assets other than cash are expected to produce cash over time, but the amount of cash they eventually produce could be higher or lower than the amounts at which the assets are carried on the books.

Net operating working capital is equal to current assets minus the difference between current liabilities and notes payable. This definition assumes that the firm has no "excess" cash.

The next-to-last line on the income statement shows the firm's earnings, while the last line shows the dividends the company paid. Therefore, the dividends are frequently called "the bottom line."