Chapter 2, Problem 22QP

a)

Summary Introduction

To calculate: The shareholders’ equity for 2010 and 2011.

Introduction:

Cash flow refers to the difference between the cash that comes into the business and the cash that goes out of the business. The following are the different types of cash flows in a corporation:

• Cash flow from assets:

  It refers to the difference between the revenues from the sale of assets and the money invested in purchasing the assets.

• Cash flow to creditors:

  It refers to the interest paid to the creditors minus the net fresh debt borrowed by the company.

• Cash flow to stockholders:

  It refers to the dividend paid to the shareholders of the company minus the fresh equity raised by the company.

• Operating cash flow:

  It refers to the cash flow from operating activities of the firm.

Answer to Problem 22QP

The stockholders’ equity for 2010 is $2,325. The stockholders’ equity for 2011 is $2,999.

Explanation of Solution

Given information:

The current assets are $914, the net fixed assets are $3,767, the current liabilities are $365, and the long-term debt is $1,991 for the year 2010. The current assets are $990, the net fixed assets are $4,536, the current liabilities are $410, and the long-term debt is $2,117 for the year 2011.

Formulae:

$\text{Total assets}=\text{Current assets}-\text{Net fixed assets}$

$\text{Total liabilities}=\text{Current liabilities}-\text{Long term debt}$

$\text{Stockholders equity}=\text{Total assets}-\text{Total liabilities}$

Compute the total assets for 2010:

$\begin{array}{c}\text{Total assets}=\text{Current assets}+\text{Net fixed assets}\\ =\$914+\$3,767\\ =\$4,681\end{array}$

Hence, the total assets for 2010 is $4,681

Compute the total liabilities for 2010:

$\begin{array}{c}\text{Total liabilities}=\text{Current liabilities}+\text{Long term debt}\\ =\$365+\$1,991\\ =\$2,356\end{array}$

Hence, the total liabilities for 2010 is $2,356.

Compute the stockholders’ equity for 2010:

$\begin{array}{c}\text{Stockholders equity}=\text{Total assets}-\text{Total liabilities}\\ =\$4,681-\$2,356\\ =\$2,325\end{array}$

Hence, the stockholders’ equity for 2010 is $2,325.

Compute the total assets for 2011:

$\begin{array}{c}\text{Total assets}=\text{Current assets}+\text{Net fixed assets}\\ =\$990+\$4,536\\ =\$5,526\end{array}$

Hence, the total assets for 2011 is $5,526.

Compute the total liabilities for 2011:

$\begin{array}{c}\text{Total liabilities}=\text{Current liabilities}+\text{Long term debt}\\ =\$410+\$2,117\\ =\$2,527\end{array}$

Hence, the total liabilities for 2011 is $2,527.

Compute the stockholders’ equity for 2011:

$\begin{array}{c}\text{Stockholders equity}=\text{Total assets}-\text{Total liabilities}\\ =\$5,526-\$2,527\\ =\$2,999\end{array}$

Hence, the stockholders’ equity for 2011 is $2,999.

b)

Summary Introduction

To calculate: The change in net working capital for 2011.

Introduction:

Cash flow refers to the difference between the cash that comes into the business and the cash that goes out of the business.

Answer to Problem 22QP

The change in net working capital for 2011 is $31.

Explanation of Solution

Given information:

The current assets are $914, andthe current liabilities are $365 for the year 2010. The current assets are $990, and the current liabilities are $410for the year 2011.

Formulae:

$\text{Ending net working capital}=\text{Ending current assets}-\text{Ending current liabilities}$

$\text{Beginning net working capital}=\text{Beginning current assets}-\text{Beginning current liabilities}$

$\text{Change in net working capital}=\left(\begin{array}{l}\text{Ending net working capital}-\\ \text{Beginning net working capital}\end{array}\right)$

Compute the ending net working capital:

$\begin{array}{c}\text{Ending net working capital}=\text{Ending current assets}-\text{Ending current liabilities}\\ =\$990-\$410\\ =\$580\end{array}$

Hence, the ending net working capital is $580.

Compute the beginning net working capital:

$\begin{array}{c}\text{Beginning net working capital}=\text{Beginning current assets}-\text{Beginning current liabilities}\\ =\$914-\$365\\ =\$549\end{array}$

Hence, the beginning net working capital is $549.

Compute the change in net working capital:

$\begin{array}{c}\text{Change in net working capital}=\left(\begin{array}{l}\text{Ending net working capital}-\\ \text{Beginning net working capital}\end{array}\right)\\ =\$580-\$549\\ =\$31\end{array}$

Hence, the change in net working capital is $31.

c)

Summary Introduction

To calculate: The cash flow from assets for 2011 and the fixed assets sold in 2011.

Introduction:

Cash flow refers to the difference between the cash that comes into the business and the cash that goes out of the business.

Answer to Problem 22QP

The cash flow from assets is $2,653. The company sold $88 worth of fixed assets.

Explanation of Solution

Given information:

The company had sales of $11,592. The costs of goods sold were $5,405. The company charged $1,033 as depreciation. It had to pay interest expenses amounting to $2914. The tax rate applicable is 35 percent. The change in net working capital is $31. The net fixed assets are $3,767 for the year 2010, and the net fixed assets are $4,536 for the year 2011. The company purchased $1,890 worth of fixed assets.

Formulae:

$\text{Net capital spending}=\text{Fixed assets bought}-\text{Fixed assets sold}$

$\text{Cash flow from assets}=\left(\begin{array}{l}\text{Operating}\\ \text{cash flow}\end{array}\right)-\left(\begin{array}{l}\text{Change in net}\\ \text{working capital}\end{array}\right)-\left(\begin{array}{l}\text{Net capital}\\ \text{spending}\end{array}\right)$

Compute the net income:

Company P
Income statement
Particulars	Amount	Amount
Net sales		$11,592
Less:
Costs	$5,405
Depreciation	$1,033	$6,438
Earnings before interest and taxes		$5,154
Less: Interest paid		$294
Taxable income		$4,860
Less: Taxes ($4,860×35%)		$1,701
Net income		$3,159

Hence, the net income is $3,159.

Compute the operating cash flow:

Company P
Operating cash flow
Particulars	Amount
Earnings before interest and taxes	$5,154
Add: Depreciation	$1,033
	$6,187
Less: Taxes	$1,701
Operating cash flow	$4,486

Hence, the operating cash flow is $4,486.

Compute the net capital spending:

Company P
Net capital spending
Particulars	Amount
Ending net fixed assets	$4,536
Less: Beginning net fixed assets	$3,767
	$769
Add: Depreciation	$1,033
Net capital spending	$1,802

Hence, the net capital spending is $1,802.

Compute the cash flow from assets:

The operating cash flow is $4,486. The change in net working capital is $31, and the net capital spending is $1,802.

$\begin{array}{c}\text{Cash flow from assets}=\left(\begin{array}{l}\text{Operating}\\ \text{cash flow}\end{array}\right)-\left(\begin{array}{l}\text{Change in net}\\ \text{working capital}\end{array}\right)-\left(\begin{array}{l}\text{Net capital}\\ \text{spending}\end{array}\right)\\ =\$4,486–\$31–\$1,802\\ =\$2,653\end{array}$

Hence, the cash flow from assets is $2,653.

Compute the fixed assets sold:

$\begin{array}{c}\text{Net capital spending}=\text{Fixed assets bought}-\text{Fixed assets sold}\\ \$1,802=\$1,890-\text{Fixed assets sold}\\ \text{Fixed assets sold}=\$1,890-\$1,802\\ =\$88\end{array}$

Hence, the value of fixed assets sold is $88.

d)

Summary Introduction

To calculate: The cash flow to creditors, and the amount of long-term debt paid off.

Introduction:

Cash flow refers to the difference between the cash that comes into the business and the cash that goes out of the business.

Answer to Problem 22QP

The cash flow to creditors is $168. The company paid off $252-worth of long-term debt.

Explanation of Solution

Given information:

The long-term debt is $1,991 for the year 2010, and the long-term debt is $2,117 for the year 2011. $378is raised in new long-term debt. The company paid interest amounting to $294.

Formulae:

$\text{Net new borrowing}=\text{Long-term debt at the end}-\text{Long-term debt at the beginning}$

$\text{Cash flow to creditors}=\text{Interest paid}-\text{Net new borrowing}$

Compute the net new borrowing:

$\begin{array}{c}\text{Net new borrowing}=\text{Long-term debt at the end}-\text{Long-term debt at the beginning}\\ =\$2,117–\$1,991\\ \text{= }\$126\end{array}$

Hence, the net new borrowing is $126.

Compute the cash flow to creditors:

$\begin{array}{c}\text{Cash flow to creditors}=\text{Interest paid}-\text{Net new borrowing}\\ =\$294–\$126\\ \text{= }\$168\end{array}$

Hence, the cash flow to creditors is $168.

Compute the debt paid off:

$\begin{array}{c}\text{Net new borrowing}=\text{Debt raised}-\text{Debt paid off}\\ \$126=\$378–\text{Debt paid off}\\ \text{Debt paid off= }\$378-\$126\\ =\$252\end{array}$

Hence, the value of debt paid off is $252.