Question

During 2019, Rainbow Umbrella Corp. had sales of $670,000. Cost of goods sold, administrative and selling expenses, and depreciation expenses were $450,000, $90,000, and $160,000, respectively. In addition, the company had an interest expense of $92,000 and a tax rate of 21 percent. (Assume that interest is fully deductible.) Suppose the company paid out $56,000 in cash dividends. If spending on net fixed assets and net working capital was zero, and if no new stock was issued during the year, what was the net new long-term debt? (Do not round intermediate calculations.)

Answer 1

Answer :

First step : Compute income to the firm as follows :

Income = [ sales - cost of goods sold - administrative and selling expenses - depreciation - interest ]

= [ $670,000 - $450,000 - $90,000 - $160,000 - $92,000 ]

= - $122,000

Thus , the income to the firm is - $122,000

Second step : Compute the cash flows as follows :

Cash flow = income + depreciation

= -$122,000 + $160,000

= $38,000

Thus , the cash flow is $38,000.

Finally , compute the amount of new long-term debt issued as follows :

New long-term debt = cash dividend - cash flow

= $56,000 - $38,000

= $18,000

Thus, the amount of long-term debt issued is $18,000.