Solutions to Chapter 3Accounting and Finance.docx

Solutions to Chapter 3Accounting and Finance.docx

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SolutionstoChapter3AccountingandFinance

SolutionstoChapter3

AccountingandFinance

1.

Assets

Liabilities&

Shareholders’Equity

Cash

$10,000

Accountspayable

$17,000

Accountsreceivable

22,000

Long-termdebt

170,000

Inventory

200,000

Shareholders’equity

145,000

Store&property

100,000

Totalassets

$332,000

Totalliabilities&

Shareholders’equity

$332,000

2.Thebalancesheetshowsthepositionofthefirmatonepointintime.Itshowstheamountsofassetsandliabilitiesatthatparticulartime.Inthissenseitislikeasnapshot.Theincomestatementshowstheeffectofbusinessactivitiesovertheentireyear.Sinceitcaptureseventsoveranextendedperiod,itismorelikeavideo.Thestatementofcashflowisliketheincomestatementinthatitsummarizesactivityoverthefullyear,soittooislikeavideo.

3.Accountingrevenuesandexpensescandifferfromcashflowsbecausesomeitemsincludedinthecomputationofrevenuesandexpensesdonotentailimmediatecashflows.Forexample,salesmadeoncreditareconsideredrevenueeventhoughcashisnotcollecteduntilthecustomermakesapayment.Also,depreciationexpensereducesnetincome,butdoesnotentailacashoutflow.Conversely,somecashflowsarenotincludedinrevenuesorexpenses.Forexample,collectionofaccountsreceivableresultsinacashinflowbutisnotrevenue.Purchasesofinventoryrequirecashoutlays,butaretreatedasinvestmentsinworkingcapital,notasexpenses.

4.Workingcapitaloughttobeincreasing.Thefirmwillbebuildingupstocksofinventoryasitrampsupproduction.Inaddition,assalesincrease,accountsreceivablewillincreaserapidly.Whileaccountspayablewillprobablyalsoincrease,theincreaseinaccountsreceivablewilltendtodominatesincesalespricesexceedinputcosts.

5.a.Taxes=（0.10$8,025）+0.15（$20,000$8,025）=$2,599

Averagetaxrate=$2,599/$20,000=0.12995=12.995%

Marginaltaxrate=15%

b.Taxes=（0.10$8,025）+0.15（$32,550$8,025）+0.25（$50,000$32,550）

=$8844

Averagetaxrate=$8,844/$50,000=0.17688=17.688%

Marginaltaxrate=25%

c.Taxes=（0.10$8,025）+0.15（$32,550$8,025）+0.25（$78,850$32,550）

+0.28（$164,550$78,750）+0.33（$300,000$164,550）=$84,751

Averagetaxrate=$84,751/$300,000=0.2825=28.25%

Marginaltaxrate=33%

d.Taxes=（0.10$8,025）+0.15（$32,550$8,025）+0.25（$78,850$32,550）

+0.28（$164,550$78,750）+0.33（$357,700$164,550）

+0.35（$3,000,000–$357,700）=$1,009,556

Averagetaxrate=$1,009,556/$3,000,000=0.3365=33.65%

Marginaltaxrate=35%

6.Taxes=（0.15$50,000）+0.25（$75,000$50,000）+0.34（$100,000$75,000）

=$22,250

Averagetaxrate=$22,250/$100,000=0.2225=22.25%

Marginaltaxrate=34%

7.Taxes=（0.10$16,050）+0.15（$65,100$16,050）+0.25（$95,000$65,100）

=$16,437.50

Averagetaxrate=$16,437.50/$95,000=0.1730=17.30%

Marginaltaxrate=25%

8.a.Cashwillincreaseasonecurrentasset（inventory）isexchangedforanother（cash）.

b.Cashwillincrease.Themachinewillbringincashwhenitissold,buttheleasepaymentswillbemadeoverseveralyears.

c.Thefirmwillusecashtobuybackthesharesfromexistingshareholders.Cashbalancewilldecrease.

9.Netincome=Increaseinretainedearnings+dividends

$900,000=（$3,700,000$3,400,000）+dividendsdividends=$600,000

10.Taxesonyoursalary=（0.10$8,025）+0.15（$32,550$8,025）

+0.25（$70,000$32,550）=$13,844

Taxesoncorporateincome=0.15$30,000=$4,500

Totaltaxes=$13,844+$4,500=$18,344

Ifyourearrangeincomesothatyoursalaryandthefirm'sprofitareboth$50,000then:

Taxesonyoursalary=（0.10$8,025）+0.15（$32,550$8,025）

+0.25（$50,000$32,550）=$8,844

Taxesoncorporateincome=0.15$50,000=$7,500

Totaltaxes=$8,844+$7,500=$16,344

Totaltaxesarereducedby$18,344$16,344=$2,000

11.a.Bookvalueequalsthe$200,000thefounderofthefirmhascontributedintangibleassets.Marketvalueequalsthevalueofhispatentplusthevalueoftheproductionplant:

$50,000,000+$200,000=$50,200,000

b.Pricepershare=$50.2million/2millionshares=$25.10

Bookvaluepershare=$200,000/2millionshares=$0.10

12.

Sales

$10,000

Costofgoodssold

6,500

General&administrativeexpenses

1,000

Depreciationexpense

1,000

EBIT

1,500

Interestexpense

500

Taxableincome

1,000

Taxes（35%）

350

Netincome

$650

Cashflowfromoperations=netincome+depreciationexpense=$1,650

13.Cashflowfromoperationscanbepositiveevenifnetincomeisnegative.Forexample,ifdepreciationexpensesarelarge,thennegativenetincomemightcorrespondtopositivecashflowbecausedepreciationistreatedasanexpenseincalculatingnetincome,butdoesnotrepresentacashoutflow.

Conversely,ifnetincomeispositive,butalargeportionofsalesaremadeoncredit,cashflowcanbenegativesincethesalesarerevenuebutdonotyetgeneratecash.LookbacktoTable3-3,andyouwillseethatincreasesinaccountsreceivablereducecashprovidedbyoperations.

14.Thecalculationsarepresentedinthefollowingtable.Salesoccurinquarters2and3,sothisiswhenthecostofgoodssoldisrecognized.Therefore,netincomeiszeroinquarters1and4.Inquarter1,theproductionofthekitsistreatedasaninvestmentininventories.Thelevelofinventoriesthenfallsasgoodsaresoldinquarters2and3.Accountsreceivableinquarters2and3equalthesalesinthosequarterssinceittakesonequarterforreceivablestobecollected.Noticethatcashflowinquarter1equalsthecostofproducingthekits,andinquarters3and4,cashflowequalscashreceivedforthekitspreviouslysold.

a.

Quarter1

Quarter2

Quarter3

Quarter4

Sales

$0

$550

$600

$0

Costofgoodssold

0

500

500

0

Netincome

$0

$50

$100

$0

b.,c.

Inventories

$1,000

$500

$0

$0

Accountsreceivable

0

550

600

0

Networkingcapital

$1,000

$1,050

$600

$0

Cashflow

$1,000

$0

$550

$600

Cashflow=netincome–changeinnetworkingcapital

15.Cashflow=ProfitsAccountsreceivable10,000

+Accountspayable+5,000

Inventory（2,000）

Cashflow=Profits10,000+5,000（2,000）=Profits3,000

Therefore,cashflowis$3,000lessthanprofits.Thiscorrespondstotheincreaseof$3,000innetworkingcapital.

16.a.Ifthefirmpaidincometaxesof$2,000,andtheaveragetaxratewas20%,thentaxableincomemusthavebeen:

$2,000/0.20=$10,000

Therefore:

Netincome=taxableincometaxes=$8,000

b.

Revenues

?

?

?

Costofgoodssold

8,000

Administrativeexpenses

3,000

Depreciationexpense

1,000

Interestexpense

1,000

Taxableincome

$10,000[frompart（a）]

Weconcludethatrevenueswere$23,000.

c.

Revenues

$23,000

Costofgoodssold

8,000

Administrativeexpenses

3,000

Depreciationexpense

1,000

EBIT

$11,000

17.a.

Sales

$14.00million

Costofgoodssold

8.00

Interestexpense

1.00

Depreciationexpense

2.00

Taxableincome

3.00

Taxes（35%）

1.05

Netincome

$1.95million

Cashflow=Netincome+Depreciationexpense=$3.95million

b.Ifdepreciationexpensewereincreasedby$1million,netincomewouldbereducedby$0.65million.Cashflow（=netincome+depreciation）wouldbeincreasedby:

$0.65million+$1million=$0.35million

Cashflowincreasesbecausedepreciationexpenseisnotacashoutflow,butincreasingthedepreciationexpensefortaxpurposesreducestaxespaidby$0.35million.

c.Theimpactonstockpriceislikelytobepositive.Cashavailabletothefirmwouldincrease.Thereductioninnetincomewouldberecognizedasresultingentirelyfromaccountingchanges,notasaconsequenceofanychangesintheunderlyingprofitabilityofthefirm.

d.Ifinterestexpensewere$1millionhigher,bothnetincomeandcashflowwoulddecreaseby$0.65million,i.e.,bythe$1millionincreaseinexpenseslessthe$0.35millionreductionintaxes.Thisdiffersfrompart（b）because,incontrasttodepreciation,interestexpenserepresentsanactualcashoutlay.

18.

April

May

June

Sales

$0

$150,000

$0

Costofgoodssold

0

100,000

0

Accountsreceivable

0

150,000

150,000

Inventory

100,000

100,000

0

Cashflow*

100,000

0

150,000

Netincome**

$0

$50,000

$0

*Cashflow=SalesCOGSA/RInventory

**Netincome=SalesCOGS

19.

Assets

2008

2009

Liabilitiesand

Owners’equity

2008

2009

Currentassets

310

420

Currentliabilities

210

240

Netfixedassets

1,200

1,420

Long-termdebt

830

920

Totalassets

1,510

1,840

Totalliabilities

1,040

1,160

Owners’equity

470

680

a.Owners’equity=TotalassetsTotalliabilities（asshowninthebalancesheetabove）

b.Ifthefirmissuednostock,theincreaseinowners’equitymustbedueentirelytoretainedearnings.Sinceowners’equityincreasedby$210,anddividendswere$100,netincomemusthavebeen$310.

c.Sincenetfixedassetsincreasedby$220,andthefirmpurchased$300ofnewfixedassets,thedepreciationchargemusthavebeen$80.

d.Networkingcapitalincreasedby$80,from（$310$210）=$100in2008to

（$420$240）=$180in2009.

e.Sincelong-termdebtincreasedby$90,andthefirmissued$200ofnewlong-termdebt,$110ofoutstandingdebtmusthavebeenpaidoff.

20.a.Shareholders’equity=Totalassetstotalliabilities

2008:

Shareholders’equity=$8