ST1-1
Enmphasis on Cash Flows Worldwide Rugs is a rug importer located in the
United States that resells its import products to local retailers. Last year, Worldwide
Rugs imported $2.5 million worth of rugs from around the world, all of
which were paid for prior to shipping. On receipt of the rugs, the importer
immediately resold them to local retailers for $3 million. To allow its retail clients time to resell the rugs, Worldwide Rugs sells to retailers on credit. Prior to
the end of its business year, Worldwide Rugs collected 85% of its outstanding
accounts receivable.
a.
b.
C.
d.
What is the accounting profit that Worldwide Rugs generated for the year?
Did Worldwide Rugs have a successful year from an accounting perspective?
What is the financial cash flow that Worldwide Rugs generated for the year?
Did Worldwide Rugs have a successful year from a financial perspective?
e. If the current pattern persists, what is your expectation for the future success of
Worldwide Rugs?
E1-1
Ann and
Jack have been partners for several years. Their firm, A & J Tax Prepara-
tion, has been very successful, as the pair agree
business-related questions.
One disagreement, however, concerns the legal form of their business. For the past
2 years, Ann has tried to convince Jack to incorporate. She believes there is no
to
and sees only benefits. Jack strongly disagrees; he thinks
incorporating
the business should remain a partnership forever.
First, take Ann's side, and explain the positive side to incorporating the business. Next, take Jack's side, and state the advantages to
remaining a partnership.
Last, what information would you want it you were asked to make the decision for
downside
Ann and Jack?
on most
E1-3
The
end-of-year parties at Yearling, Inc.,
are
known for their extravagance.
thank the employees for their hard work, management provides the best food and
entertainment. During the planning for this year's bash, a disagreement broke Out
between the treasurer's staff and the controller's staff. The treasurer's staff con
that the firm was running low
cash and might have trouble paying its bills
tended
Over the coming months; they requested that cuts be made to the budget for the
on
party. The controller's staff believed that any cuts were unwarranted, as the firm
continued to be very profitable.
Can both sides be correct? Explain your
E1-4
You have been made
video
conferencing.
answer.
fora day at AlIMCO, which develops technology for
A manager of the satellite division has asked you to authorize a
treasurer
capital expenditure in the amount of $100,000. The manager states that this expenditure is necessary to continue a
long-running project designed to use satellites to
allow video conferencing anywhere on the planet. The
manager admits that the satellite concept has been surpassed by recent technological advances in
telephony, but
he believes that AIMCO should continue the project because $2.5 million has
already been spent over the past 15 years on this project. Although you believe the
project will generate future cash outflows that exceed its inflows, the manager
believes it would be a shame to waste the money and time
already spent.
Use marginal cost-benefit analysis to make
your decision regarding whether you
should authorize the $100,000 expenditure to continue the
project.
Persc7a: inance Problem
P1-3
Cash flows It is
typical
using cash flows
over
for
Jane
to
plan, monitor,
a given period, typically
and
assess
her financial position
has a savings account,
month. Jane
6% per year while it offers short-term investment
and her bank loans money at
of 5%. Jane's cash flows during
August were
a
as
follows:
rates
Item
Cash inflow
-$1,000
Clothes
Interest received
Cash outflow
$ 450
-500
Dining out
-800
Groceries
Salary
4,500
Auto payment
-355
Utilities
-280
Mortgage
-1,200
Gas
a.
b.
Determine Jane's total cash inflows and cash
Determine the
If there is
d. If there is
C.
P1-4
-222
a
a
outflows.
cash flow for the month of
August.
shortage, what are a few options open to Jane?
surplus, what would be a prudent strategy for her
net
to
follow?
Marginal cost-benefit analysis and the goal of the firm Ken
analyst for Bally Gears, Inc., has been asked to evaluate a Allen, capital budgeting
The manager of
the automotive division believes
that replacing the roboticsproposal.
used on the heavy truck
gear line will produce total benefits of
$560,000 (in today's dollars) over the next 5
years. The existing robotics would
produce benefits of $400,000 (also in
dollars) over that same period. An initial cash
today's
investment of
$220,000 would be
manager estimates that the
existing
Show how Ken will
required to install the new equipment. "The
robotics can be sold for $70,000.
apply marginal cost-benefit
analysis techniques to determine the following:
a. The
marginal benefits of the proposed new robotics.
b. The marginal costs of the proposed new
robotics.
C. The net benefit of the
proposed new robotics.
d. What should Ken recommend that the
company do? Why?
e. What factors besides the costs and
benefits should be
considered
decision is made?
before
the final
P1-7
Marginal and average tax rates Using the tax rate schedule given in Table 1.2, perform the following:
a. Calculate the tax liability, after-tax earnings, and average tax rates for the fol-
lowing levels of partnership earnings before taxes: $10,000; $80,000; $300,000;
$500,000; $1 million; $1.5 million; and $2 million.
b. Plot the average tax rates (measured on the y-axis) against the pretax income levels (measured on the x-axis). What generalization can be made concerning the
relationship between these variables?
P1-8
Marginal tax rates Using the tax rate schedule given in Table 1.2, perform the
following:
a. Find the marginal tax rate for the following levels of sole proprietorship earnings
before taxes: $15,000; S60,000; $90,000; $150,000; $250,000; $450,000; and
$1 million.
b. Plot the marginal tax rates (measured on the y-axis) against the pretax income
levels (measured on the x-axis). Explain the relationship berween these variables.