Question

Bartling Energy Systems recently reported $9,250 of sales, $5,750 of operating costs other than depreciation, and $700 of depreciation. The company had no amortization charges, it had $3,200 of outstanding bonds that carry a 5% interest rate, and its federal-plus-state income tax rate was 25%. In order to sustain its operations and thus generate sales and cash flows in the future, the firm was required to make $1,250 of capital expenditures on new fixed assets and to invest $300 in net operating working capital. By how much did the firm's net income exceed its free cash flow?

	a.	$658.83
	b.	$766.50
	c.	$804.83
	d.	$693.50
	e.	$730.00

Answer 1

The net income is computed as follows:

= (Sales - operating cost other than depreciation - depreciation - debt x interest rate) x (1 - tax rate)

= ($ 9,250 - $ 5,750 - $ 700 - $ 3,200 x 5%) x (1 - 0.25)

= $ 1,980

Free cash flow is computed as follows:

= (Sales - operating cost other than depreciation - depreciation) x (1 - tax rate) + depreciation - capital expenditure - net operating working capital

= ($ 9,250 - $ 5,750 - $ 700) x (1 - 0.25) + $ 700 - $ 1,250 - $ 300

= $ 1,250

So, the excess amount will be:

= $ 1,980 - $ 1,250

= $ 730