Question 1

A firm had EBIT of $1,000, paid taxes of $225, expensed depreciation at $13, and its gross fixed assets increased by $25. What was the firm's operating cash flow?

Accepted Answer

Operating cash flow is calculated as EBIT + Depreciation - Taxes. So, $1,000 + $13 - $225 = $788. The increase in gross fixed assets is not included in this calculation.

Question 2

All of the following would be a result of changing to the MACRS method of depreciation EXCEPT

Accepted Answer

The Modified Accelerated Cost Recovery System (MACRS) allows for higher depreciation expense in the early years of an asset's life, which leads to lower taxable income and thus lower taxes in those years. All the choices listed are indeed results of switching to MACRS.

Question 3

GW Inc. had $800 million in retained earnings at the beginning of the year. During the year, the firm paid $0.75 per share dividend and generated $1.92 earnings per share. The firm has 100 million shares outstanding. At the end of year, what was the level of retained earnings for GW?

Accepted Answer

GW Inc. started the year with $800 million in retained earnings. During the year, it generated $1.92 earnings per share on 100 million shares, totaling $192 million in earnings. It paid out $0.75 per share in dividends on 100 million shares, totaling $75 million in dividends. The net increase in retained earnings is $192 million - $75 million = $117 million. Adding this to the starting retained earnings gives $800 million + $117 million = $917 million.

Question 4

Which of the following statements is correct?

Accepted Answer

The statement of cash flows is crucial because it shows how a company generates and uses cash, which is vital for meeting obligations, paying for investments, and returning money to shareholders. Unlike accounting profit, which includes non-cash revenues and expenses, cash flow provides a clear picture of the company's liquidity and financial health. Choices A and C are incorrect because the bottom line of the statement of cash flows shows the net increase or decrease in cash and cash equivalents, not the change in retained earnings, and having an accounting profit does not guarantee an increase in cash, as profits include non-cash items and do not account for cash outflows for investments or debt repayments.

Question 5

The CEO of Tom and Sue's wants the company to earn a net income of $3.25 million in 2018. Cost of goods sold is expected to be 60 percent of net sales, depreciation expense is $2.9 million, interest expense is expected to increase to $1.050 million, and the firm's tax rate will be 30 percent. Calculate the net sales needed to produce net income of $3.25 million.

Accepted Answer

The answer of The CEO of Tom and Sue's wants...

Question 6

LLV Inc. originally forecasted the following financial data for next year: sales = $1,000, cost of goods sold = $710, and interest expense = $95. The firm believes that COGS will always be 71 percent of sales. Due to pressure from shareholders, the firm wants to achieve a net income of $150. Assuming the interest expense will remain the same, how large must sales be to achieve this goal? Assume a 35 percent tax rate.

Accepted Answer

The answer of LLV Inc. originally forecasted the following financial...

Question 7

Investment in operating capital is:

Accepted Answer

Investment in operating capital is typically defined as the change in net operating working capital plus the change in fixed assets (net of depreciation). None of the options provided accurately describe this concept.

Question 8

All of the following are cash flows from operations EXCEPT

Accepted Answer

Increases or decreases in cash are not considered cash flows from operations because they represent the net result of all types of cash flows (operating, investing, and financing), not a specific category of cash flow. Cash flows from operations typically include items like net income, depreciation, and changes in working capital (e.g., accounts payable).

Question 9

All of the following are cash flows from financing EXCEPT a(n)

Accepted Answer

An increase in accounts payable is considered a cash flow from operations, not financing. Financing activities involve transactions designed to fund the company and its capital structure, such as issuing stock, repurchasing stock, and paying dividends.

Question 10

Lemmon Inc. lists fixed assets of $100 on its balance sheet. The firm's fixed assets have recently been appraised at $140. The firm's balance sheet also lists current assets at $15. Current assets were appraised at $16.50. Current liabilities book and market values stand at $12 and the firm's long-term debt is $40. Calculate the market value of the firm's stockholders' equity.

Accepted Answer

The answer of Lemmon Inc. lists fixed assets of $100...

Question 11

A firm has operating income of $1,000, depreciation expense of $185, and its investment in operating capital is $400. The firm is 100 percent equity financed and has a 35 percent tax rate. What is the firm's operating cash flow?

Accepted Answer

Operating Cash Flow (OCF) is calculated as Operating Income + Depreciation - Taxes. Taxes are calculated on the Operating Income, so Taxes = $1,000 * 35% = $350. Therefore, OCF = $1,000 + $185 - $350 = $835.

Question 12

Which of the following is a use of cash?

Accepted Answer

Decreasing accrued wages and taxes involves paying out cash to settle these obligations, thus it is a use of cash.

Question 13

ABC Inc. has $100 in cash on its balance sheet at the end of 2017. During 2018, the firm issued $450 in common stock, reduced its notes payable by $40, purchased fixed assets in the amount of $750, and had cash flows from operating activities of $315. How much cash did ABC Inc. have on its balance sheet at the end of 2018?

Accepted Answer

ABC Inc.'s cash at the end of 2018 is calculated as follows: Starting cash ($100) + cash from issuing stock ($450) - cash used to reduce notes payable ($40) - cash used to purchase fixed assets ($750) + cash from operating activities ($315) = $75.

Question 14

Which of the following is an example of a capital structure?

Accepted Answer

Capital structure refers to the mix of debt and equity financing a company uses to fund its operations and growth. Option C, which specifies a mix of 20 percent debt and 80 percent equity, directly represents a company's capital structure.

Question 15

A firm has sales of $690, EBIT of $300, depreciation of $40, and fixed assets increased by $265. If the firm's tax rate is 40 percent and there were no increases in net operating working capital, what is the firm's free cash flow?

Accepted Answer

Free cash flow is calculated as: EBIT(1-Tax rate) + Depreciation - Increase in Fixed Assets. Here, EBIT(1-0.4) = $180, Depreciation = $40, Increase in Fixed Assets = $265. So, FCF = $180 + $40 - $265 = -$45.

Question 16

Cash flows available to pay the firm's stockholders and debt holders after the firm has made the necessary working capital investments, fixed asset investments, and developed the necessary new products to sustain the firm's ongoing operations is referred to as:

Accepted Answer

Free cash flow is the cash that a company generates after accounting for cash outflows to support operations and maintain its capital assets. It is the cash available to pay the firm's stockholders and debt holders after making necessary investments in working capital, fixed assets, and new product development.

Question 17

All of the following are reasons that one should be cautious in interpreting financial statements EXCEPT

Accepted Answer

Each of the statements A, B, and C correctly identifies a reason for caution in interpreting financial statements, making D ("All of these choices are correct.") the exception as it does not provide a reason for caution but rather affirms the validity of the other reasons.

Question 18

Is it possible for a firm to have positive net income and yet to have cash flow problems?

Accepted Answer

Yes, a firm can have positive net income and still face cash flow problems, especially if it is growing rapidly. This can happen because net income includes non-cash items like depreciation, and revenues may be recognized before cash is actually received, leading to a gap between profits and cash availability.

Question 19

LLV Inc. originally forecasted the following financial data for next year: sales = $1,000, cost of goods sold = $675, and interest expense = $90. The firm believes that COGS will always be 67.5 percent of sales. Due to increased global demand, the firm is now projecting that sales will be 20 percent higher than the original forecast. What is the additional net income (as compared to the original forecast) the firm can expect assuming a 35 percent tax rate?

Accepted Answer

The original sales forecast was $1,000, and with a 20% increase, the new sales forecast is $1,200 ($1,000 * 1.20). The cost of goods sold (COGS) is 67.5% of sales, so the new COGS is $810 ($1,200 * 0.675). The increase in gross profit is the increase in sales minus the increase in COGS, which is $200 ($1,200 - $1,000) - $135 ($810 - $675) = $65. After accounting for the unchanged interest expense of $90, the pre-tax income increase is still $65, as interest expense does not affect the calculation of gross profit. The additional net income, after a 35% tax rate, is $42.25 ($65 * (1 - 0.35)).

Question 20

Which of the following is NOT a source of cash?

Accepted Answer

Paying off long-term debt uses cash rather than providing it, making it not a source of cash.

Quiz 2: Reviewing Financial Statements