Income and Cash Flow Analysis
The Berndt Corporation expects to have sales of $14 million. Costs other than depreciation are expected to be 80% of sales, and depreciation is expected to be $1.4 million. All sales revenues will be collected in cash, and costs other than depreciation must be paid for during the year. Berndt's federal-plus-state tax rate is 35%. Berndt has no debt.
Set up an income statement. What is Berndt's expected net income? Enter your answer in dollars. For example, an answer of $1.2 million should be entered as 1,200,000. Round your answer to the nearest dollar.
$
What is Berndt's expected net cash flow? Enter your answer in dollars. For example, an answer of $1.2 million should be entered as 1,200,000. Round your answer to the nearest dollar.
$
Suppose Congress changed the tax laws so that Berndt's depreciation expenses doubled. No changes in operations occurred. What would happen to reported profit and to net cash flow?
I. If depreciation doubled, taxable income
would not be affected since depreciation and amortization are
non-cash expenses. Net cash flow would double.
II. If depreciation doubled, taxable income would
fall to zero, taxes would be zero, and net cash flow would be
unaffected.
III. If depreciation doubled, taxable income would
fall to zero, taxes would be zero, and net cash flow would
rise.
IV. If depreciation doubled, taxable income would
fall to zero, taxes would be zero, and net cash flow would
decline.
V. If depreciation doubled, taxable income would
not be affected since depreciation and amortization are non-cash
expenses. Net cash flow would also be unaffected.
Now suppose that Congress changed the tax law such that, instead of doubling Berndt's depreciation, it was reduced it by 50%. How would profit and net cash flow be affected?
I. If depreciation were halved, taxable income
and net cash flow would rise but taxes would fall.
II. If depreciation were halved, taxable income
and taxes would rise but net cash flow would fall.
III. If depreciation were halved, taxable income,
taxes, and net cash flow would all rise.
IV. If depreciation were halved, taxable income
and taxes would decline but net cash flow would rise.
V. If depreciation were halved, taxable income,
taxes, and net cash flow would all decline.
If this were your company, would you prefer Congress to cause your depreciation expense to be doubled or halved? Why?
I. You should prefer to have higher
depreciation charges and therefore higher net income. Net cash
flows are the funds that are available to the owners to withdraw
from the firm and, therefore, cash flows should be more important
to them than net income.
II. You should prefer to have higher depreciation
charges and therefore higher cash flows. Net cash flows are the
funds that are available to the owners to withdraw from the firm
and, therefore, cash flows should be more important to them than
net income.
III. You should prefer to have lower depreciation
charges and therefore higher cash flows. Net cash flows are the
funds that are available to the owners to withdraw from the firm
and, therefore, cash flows should be more important to them than
net income.
IV. You should prefer to have higher depreciation
charges and therefore higher net income. Net income represents the
funds that are available to the owners to withdraw from the firm
and, therefore, net income should be more important to them than
net cash flows.
V. You should prefer to have lower depreciation
charges and therefore higher net income. Net income represents the
funds that are available to the owners to withdraw from the firm
and, therefore, net income should be more important to them than
net cash flows.
As per rules I am answering the first 4 subparts of the question
1: Income Statement
Sales = 14,000,000
Less: Costs 80%= 11200000
EBITDA = 2800000
Less: Depreciation =1400,000
EBIT (Taxable income)= 1400000
Less: Taxes 35% = 490000
Net Income = 910000
2: Net cash flow= Net Income after tax + Depreciation
= 910,000+ 1400,000 = 2310000
3: III. If depreciation doubled, taxable income would fall to zero, taxes would be zero, and net cash flow would rise.
(If depreciation = 2.8 million, taxable income= 2.8-2.8 = 0, So there would be no tax. Net cash flow will be 0+2.8 = 2.8 million)
4: II. If depreciation were halved, taxable income and taxes would rise but net cash flow would fall.
(If depreciation = 0.7 million, taxable income= 2.8-0.7 = 2.1 million,Tax= 2.1*35% = 735,000. Net cash flow will be 2100,000-735000+700000 = 2065000)
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