Site Loader
Rock Street, San Francisco

Mini Case

Q1) Effect on Sales, Net Profit, Current Assets and Current Liabilities

Sales increase by more than 1.7 times in 2004 which shows that due to the investment, more goods were sold. However the Net Profit figure shows that this increase in sales was due to increased expenditure on interest payments and the added cost of the goods that were sold. The expansion wasn’t successful as the Net Profit of 2003 turned into a Net Loss in 2004.

The liabilities and equity are showing an increase of twice the value of 2003, however this fact is attributable to the increase in debts through the notes and accounts payable as well as long term debts. These debts would have most probably been used to finance the long term assets as well as huge inventories which has increased the assets figure with an almost twice the amount of 2003 in spite of the fall in the short term investments. However the problem with all this is that the money is tied up in non-liquid assets from which a company would find very difficult to pay for the interests on the loans.

Q2) Impact on Cash Flow Statement

The statement of cash flow shows that the firm isn’t at all liquid. Maybe it is the company’s policy not to hold onto cash, however from the statement it looks that there are too many debts and interests paid which have decreased the cash available for paying off debts. The negative net income turned the operations into a cash outflow while the organization let go of its short term investments to meet the expenditure of the borrowed money. (Porter & Norton, 2006)

Q3) Free Cash Flow

Free cash flow is the cash available to a company “after laying out the money required to maintain or expand its asset base” (Investopedia, 2008). In other words, it is the cash available for dispersion to the claim holders of the organization. Free cash flow is important because it provides an opportunity to the company to optimize the shareholders value and the company’s own value is dependent on the FCF. Its uses can be (Tyler, 2007):

1.      To pay off shareholders

2.      To buy further capital assets

3.      To pay the interest on debts

4.      To check if the company needs to look at other avenues for financing

5.      Used as an indicator of the ability of an organization to return profits to the shareholders through debt reduction, increasing dividends, or stock buybacks.

Q4) Operating Current Assets and Operating Current Liabilities

Operating Current Assets are all those Current Assets used in daily operations. These include cash, inventory, receivable etc. and do not contain the short term investments as they are not part of the operations. The Operating Current Liabilities are the normal liabilities in the daily operations of a company. These generally include the accruals and account payables but do not include the notes payable as they are the part of financing and not of operations. (Porter & Norton, 2006)

Net Operating Working Capital (NOWC) = Operating Current Assets – Operating Current Liabilities

NOWC (2004)                            = (Cash + AR + Inventories) – (Accounts Payable + Accruals)           = (7282 + 632160 + 1287360) – (324000 + 284960)

                                                   = $1,317,842

NOWC (2003)                          = (Cash + AR + Inventories) – (Accounts Payable + Accruals)

                                                  = (9000 + 351200 +715200) – (145600 + 136000)

   = $793,800

Operating Capital                   = Net Operating Working Capital + Net Fixed Assets

Operating Capital (2004)          = 1,317,842 + 939,790

                                                   = $2,257,632

Operating Capital (2003)           = 793800 + 344800

    = $1,138,600

Q5) Net Profit After Taxes = EBIT x (1 – Tax rate)

NOPAT (2004)                      = 17,440 x (1 – 0.4)

                                                = $10,464

NOPAT (2003)                      = 209100 x (1 – 0.4)

= $125,460

Free Cash Flow        = NOPAT – Net Investment in Operating Capital

FCF                             = NOPAT – (Operating Capital (2004) – Operating Capital (2003))

= 10,464 – (2,257,632 – 1,138,600)

= 10,464 – 1,119,032

= ($1,108,568)

Q6) Return on Invested Capital (ROIC)   = NOPAT / Operating Capital

ROIC (2004)                                                 = $10,464 / $2,257,632

= 0.46%

ROIC (2003)                                                 = 125460 / 1138600

= 11.0%

Computron’s growth did not add value since the ROIC of 0.46% is less than the WACC of 10% meaning that the return on the investor’s money did not reap the return they expected by far.

Q7) Economic Value Added = NOPAT – (WACC x Capital)

EVA (2004)                           = 10,464 – (0.1 x 2,257,632)

                                                = 10,464 – 225,763

                                                = (215,299)

EVA (2003)                           = 125,460 – (0.10 x 1,138,600)

                                               = 125,460 – 113,860

                                                = $11,600

Q8) Market Value Added       = Market Value of the Equity – Book Value of the Equity

Market Value of Equity (2003) = (Number of Shares of Stock x Price per Share) + Value of Debt

   = (100,000 x 6.00)

   = $600,000

Book Value of Equity (2003)    = Total Common Equity + Value of Debt

   = $557,632

Market Value Added (2003)                = 600,000 – 557,632

  = $42,368

Q9) Taxable Liability = Taxable Income x Tax Rate

Tax Rate Applicable at income of between the 100,000 – 335,000 slab

= 22250 + (39% x Exceeding Amount)

Base Amount                                                 =  100000

Operating Income                                          = (100000)

Interest Income                                             =   (5000)

Taxable Dividend (10000 – (10000 x 0.7)    =   (3000)

Exceeding By                                                =    8000

Tax Liability                                                  = 22250 + (0.39 x 8000)

                                                                       = 25370

Q10) Exxon’s 10% and California’s 7%

Tax Rate = 25.0%

After Tax Interest Income:

Exxon             = Yield x After Tax Income

= 10% x (5000 – (5000 x 0.25))

            = $375

California        = 7% x (5000 – (5000 x 0.25))

= $262.5

Exxon must be chosen for investment as it gives a higher return

California Yield = Exxon Yield (1 – Tax Rate)

                7.00% = 10.0% (1 – Tax Rate)

            Tax Rate = 30.0%

At an interest rate of 30%, the point of indifference will arrive

Works Cited

1.      Investopedia. (2008). Free Cash Flow (FCF). Retrieved May 19, 2008, from Investopedia: http://www.investopedia.com/terms/f/freecashflow.asp

2.      Porter, G. A., & Norton, C. L. (2006). Financial Accounting: The Impact on Decision Makers. South-Western College Pub; 5 edition .

3.      Tyler. (2007). Free Cash Flow Explained. Retrieved May 19, 2008, from Dividend Money: http://dividendmoney.com/free-cash-flow-explained/

 

Post Author: admin