Chapter 3: Financial Statements, Cash Flow and Taxes

Wayne Corporation had income from operations of $385,000, it received interest payments of $15,000, it paid interest of $20,000, it received dividends from another corporation of $10,000, and it paid $40,000 in dividends to its common stockholders. What is Wayne's federal income tax? A. $130,220 B. $122,760 C. $155,200 D. $163,500 E. $141,700

A. $130,220

Prezas Company's balance sheet showed total current assets of $4,250, all of which were required in operations. Its current liabilities consisted of $975 of accounts payable, $600 of 6% short-term notes payable to the bank, and $250 of accrued wages and taxes. What was its net operating working capital? A. $3,025 B. $2,874 C. $3,335 D. $3,502 E. $3,176

A. $3,025

Which of the following statements is correct? A. Under our current tax laws, when investors pay taxes on their dividend income, they are being subjected to a form of double taxation. B. In order to avoid double taxation and to escape the frequently higher tax rate applied to capital gains, stockholders generally prefer to have corporations pay dividends rather than to retain their earnings and reinvest the money in the business. Thus, earnings should be retained only if the firm needs capital very badly and would have difficulty raising it from external sources. C.If the tax laws stated that $0.50 out of every $1.00 of interest paid by a corporation was allowed as a tax-deductible expense, companies would use more debt financing than they presently do, other things held constant. D. A corporation's payments for capital—interest and dividend payments—are tax deductible; therefore, the government does not encourage companies to use one form of financing over the other. E. The fact that a percentage of the interest received by one corporation, which is paid by another corporation, is excluded from taxable income has encouraged firms to use more debt financing relative to equity financing.

A. Under our current tax laws, when investors pay taxes on their dividend income, they are being subjected to a form of double taxation.

On its 12/31/16 balance sheet, Wildcat Inc. showed $510 million of retained earnings, and exactly that same amount was shown the following year. Assuming that no earnings restatements were issued, which of the following statements is CORRECT? A. Wildcat Inc. could have paid dividends in 2017, but they would have had to equal the earnings for the year. B. If Wildcat Inc. lost money in 2017, it must have paid dividends. C.Wildcat Inc. must have paid out half of its 2017 earnings as dividends. D.Wildcat Inc. must have paid no dividends in 2017. E.Wildcat Inc. must have had zero net income in 2017.

A. Wildcat Inc. could have paid dividends in 2017, but they would have had to equal the earnings for the year.

GPD Corporation has operating income (EBIT) of $300,000, total assets of $1,500,000, and its capital structure consists of 40% debt and 60% common equity. Total assets equal total invested capital. The firm's after-tax cost of capital is 10.5% and its tax rate is 40%. The firm has 50,000 shares of common stock currently outstanding and the current price of a share of common stock is $27.00. What is the firm's Economic Value Added (EVA)? A. $ 87,575 B. $ 22,500 C. $450,000 D. $575,000 E. $187,740

B. $ 22,500 EVA= EBIT(1-T)-(Total invested capital)(After tax % cost of capital) =300,000(0.6)-(1,500,000)(0.105) =180,000-157,500 =22,500

Peterson Manufacturing recently reported EBITDA of $18.75 million and $4.5 million of net income. It has $5 million of interest expense and its corporate tax rate is 40%. What was its depreciation and amortization expense (in millions of dollars)? A. $3.75 B. $6.25 C. $2.25 D. $8.50 E. $1.50

B. $6.25

During 2017, Bascom Bakery paid out $33,525 of common dividends. It ended the year with $197,500 of retained earnings versus the prior year's retained earnings of $159,600. How much net income did the firm earn during the year? A. $74,996 B. $71,425 C. $82,683 D. $86,818 E. $78,746

B. $71,425

Which of the following statements about financial statements is CORRECT? A. The income statement gives us a picture of the firm's financial position at a point in time. B. A picture of the firm's financial position at a point in time is typically called a balance sheet. C.The statement of cash needs tells us how much cash the firm will require during some future period, generally a month or a year. D.The four most important financial statements provided in the annual report are the balance sheet, income statement, cash budget, and the statement of stockholders' equity. E.The statement of cash flows tells us how much taxable income the firm has earned during the year.

B. A picture of the firm's financial position at a point in time is typically called a balance sheet.

In its recent income statement Tyler Toys Inc. reported $72.5 million of net income, and in its year-end balance sheet it reported $1,174 million of retained earnings. The previous year its balance sheet showed $1,131 million of retained earnings. What were the total dividends (in millions of dollars) paid to shareholders during the most recent year? A. $17.7 B. $10.5 C. $29.5 D. $33.0 E. $24.6

C. $29.5

Emery Mining Inc. recently reported $150,000 of sales, $75,500 of operating costs other than depreciation, and $10,200 of depreciation. The company had $16,500 of outstanding bonds that carry a 7.25% interest rate, and its federal-plus-state income tax rate was 35%. How much was the firm's net income? The firm uses the same depreciation expense for tax and stockholder reporting purposes. A. $37,108.24 B. $35,167.33 C. $41,017.44 D.$43,068.31 E. $38,966.57

C. $41,017.44

Hayes Corporation has $300 million of common equity, with 6 million shares of common stock outstanding. If Hayes' Market Value Added (MVA) is $162 million, what is the company's stock price? A. $69.49 B. $66.02 C. $77.00 D. $80.85 E. $73.15

C. $77.00

Which of the following factors could explain why Eagle Enterprises' net cash provided from operations increased over last year, yet cash as reported on the balance sheet decreased? A. Eagle Enterprises issued new common stock. B. Eagle Enterprises cut its dividend. C. Eagle Enterprises made large investments in fixed assets. D. Eagle Enterprises issued new long-term debt. E. Eagle Enterprises sold a division and received cash in return.

C. Eagle Enterprises made large investments in fixed assets.

GPD Corporation has operating income (EBIT) of $300,000, total assets of $1,500,000, and its capital structure consists of 40% debt and 60% common equity. Total assets equal total invested capital. The firm's after-tax cost of capital is 10.5% and its tax rate is 40%. The firm has 50,000 shares of common stock currently outstanding and the current price of a share of common stock is $27.00. What is the firm's Market Value Added (MVA)? A.$ 87,575 B.$ 22,500 C.$450,000 D.$575,000 E.$187,740

C.$450,000

Last year Bartlett & Croy's operations provided a negative cash flow, yet the cash shown on its balance sheet increased. Which of the following statements could explain the increase in cash, assuming the company's financial statements were prepared under generally accepted accounting principles (GAAP)? A. Bartlett & Croy repurchased some of its common stock. B. Bartlett & Croy had high depreciation expenses. C. Bartlett & Croy retired a large amount of its long-term debt. D. Bartlett & Croy sold some of its fixed assets. E. Bartlett & Croy dramatically increased its capital expenditures.

D. Bartlett & Croy sold some of its fixed assets.

Last year, the Husky Corporation's cash balance increased, even though it had a negative cash flow. What could explain that? A. Husky Corporation paid a large dividend. B.Husky Corporation made a large investment in new equipment. C.Husky Corporation repurchased 20% of its common stock. D. Husky Corporation sold a new issue of bonds. E. Husky Corporation had high depreciation expenses on computer technology.

D. Husky Corporation sold a new issue of bonds.

On 12/31/17, 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 12/31/16, the company had reported $445,000 of retained earnings. No shares were repurchased during 2017. How much in dividends did the firm pay during 2017? A. $52,250 B. $49,638 C. $57,750 D. $60,638 E. $55,000

E. $55,000

The following items are often found on a balance sheet. Which one is NOT normally considered a current asset? A. Inventory. B. Cash. C. Accounts receivable. D. Short-term, highly-liquid, marketable securities. E. Bonds.

E. Bonds.

Which of the following statements about the statement of cash flows is CORRECT? A. In the statement of cash flows, a decrease in accounts payable is subtracted from net income in the operating activities section. B. In the statement of cash flows, a decrease in accounts receivable is subtracted from net income in the operating activities section. C. In the statement of cash flows, depreciation is subtracted from net income in the operating activities section. D. In the statement of cash flows, a decrease in inventories is subtracted from net income in the operating activities section. E. Dividends do not show up in the statement of cash flows because dividends are considered to be a financing activity, not an operating activity.

E. Dividends do not show up in the statement of cash flows because dividends are considered to be a financing activity, not an operating activity.

Which of the following statements about EVA and net income is CORRECT? A. One drawback of EVA as a performance measure is that it mistakenly assumes that equity capital is free. B. Actions that increase reported net income will always increase cash flow. C. One way to increase EVA is to achieve the same level of operating income but with more total invested capital obtained at a higher cost of capital. D. If a firm reports positive net income, its EVA must also be positive. E. One way to increase EVA is to generate the same level of operating income but with less total invested capital.

E. One way to increase EVA is to generate the same level of operating income but with less total invested capital.

Which of the following factors could explain why Spartan Financial's net income increased sharply from the previous year, yet its net cash provided from operations declined? A.Spartan Financial's cost of goods sold increased. B. Spartan Financial's expenditures on fixed assets declined. C.Spartan Financial's interest expense increased. D. Spartan Financial's dividend payment to common stockholders declined. E. Spartan Financial's depreciation expense declined.

E. Spartan Financial's depreciation expense declined.

Regarding financial statements, which of the following statements is CORRECT? A. Assets other than cash are expected to produce cash over time, and the amounts of cash they eventually produce should be exactly the same as the amounts at which the assets are carried on the books. B. The only four financial statements provided in an annual report are the balance sheet, income statement, cash budget, and statement of stockholders' equity. C.The annual report is an internal document prepared by a firm's managers solely for the use of its creditors/lenders. D.Prior to the Enron scandal in the early 2000s, companies would put verbal information in their annual reports along with the financial statements. That verbal information was often misleading, so today annual reports can contain only audited financial statements and infographics. E. The primary reason the annual report is important in finance is that it is used by investors when they form expectations about the firm's future earnings and dividends, and the riskiness of those cash flows.

E. The primary reason the annual report is important in finance is that it is used by investors when they form expectations about the firm's future earnings and dividends, and the riskiness of those cash flows.

Some intercorporate dividends received by a corporation are excluded from taxable income has encouraged debt financing over equity financing.

False

One way to think about free cash flow is that if the amount were withdrawn, it would harm the firm's ability to operate and to produce future cash flows.

True

The balance sheet, the income statement, the cash flow statement, and the statement of stockholders' equity are the four essential financial statements found in an annual report.

True

Accounting profits are less important in finance than cash flows. Free cash flow (FCF) is calculated as after-tax operating income plus depreciation less the sum of capital expenditures and changes in net operating working capital.

True

Given that the retained earnings account on the balance sheet is not a cash account--rather, it represents part of the stockholders' claims against the firm's existing assets—we could say that retained earnings are stockholders' reinvested earnings.

True