Unlock document.
This document is partially blurred.
Unlock all pages and 1 million more documents.
Get Access
McKinsey/Valuation
119
Chapter: Chapter 18: Taxes
Multiple Choice
1. Which of the following concerning operating taxes are true?
I. With full information, operating taxes can be computed without error.
II. The effects of research and development (R&D) should be removed from operating taxes.
III. Operating taxes are computed as if the company were financed entirely with equity.
IV. Making estimates of operating taxes based on tax rates in individual jurisdictions is not
recommended.
a) I and II only.
b) I and III only.
c) II and III only.
d) III and IV only.
2. Which of the following are deferred tax assets (DTAs)?
I. Warranty reserves.
II. Tax loss carryforwards.
III. Nondeductible intangibles.
IV. Pension and postretirement benefits.
a) I and II only.
b) I and III only.
c) II and III only.
d) III and IV only.
3. Which of the following concerning deferred taxes classified as nonoperating are true?
I. They will not be included in a discounted free cash flow (FCF) valuation.
II. They can be valued as part of their corresponding accounts (as in the case of pensions).
III. They can be valued separately (as in the case of net operating loss carryforwards).
IV. They can be ignored as accounting conventions (as in the case of nondeductible
amortization).
a) I and II only.
b) II and III only.
c) II and IV only.
d) I, II, III, and IV.
4. Multinational Co. (MNC) generated $1,000 million in domestic earnings before interest,
taxes, and amortization (EBITA). MNC amortizes intangible assets at $200 million per year
and takes a $300 million interest expense. MNC’s statutory (domestic) tax rate is 34 percent
on earnings before taxes, but only 24 percent on foreign operations. MNC had $100 million
of pretax foreign income and generates $20 million in ongoing research and development
(R&D) tax credits. What is its effective tax rate on pretax profits?
a) 26.7 percent.
b) 29.0 percent.
c) 31.5 percent.
d) 33.3 percent.
5. With respect to deferred taxes, which of the following is an operating entry?
a) Tax loss carryforwards.
b) Accelerated depreciation.
c) Nondeductible intangibles.
d) Pension and postretirement benefits.
True/False
6. All deferred tax liabilities (DTLs) are classified as debt.
McKinsey/Valuation
121
7. The most comprehensive method for computing operating taxes from public data is to
begin with reported taxes and undo financing and nonoperating items one by one.
8. In estimating a firm’s cost of capital and value, which of the following is most accurate
concerning marginal tax rates on nonoperating items?
a) Both GAAP and the IFRS require that marginal tax rates on nonoperating items be
reported, so it not a problem.
b) Marginal tax rates on nonoperating items are usually not reported, but in most cases an
analyst can ignore them because they are so small.
c) Marginal tax rates on nonoperating items are usually not reported, and an analyst will
have to make an assumption about the tax jurisdiction in which nonoperating items are
held.
d) IFRS requires that marginal tax rates on nonoperating items be reported, and an analyst
estimating the value of a company that uses GAAP can use approximations from similar
firms using IFRS for such marginal tax rates.
9. As a general rule, deferred tax assets and deferred tax liabilities are considered part of
invested capital.
10. The effects of research and development should be removed from operating taxes.
McKinsey/Valuation
122
Response: [Research and development expenditures (and tax credits) are a normal part of
operations.]
11. Operating taxes are computed as if the company were financed entirely with equity.
12. It is not correct to use the company’s effective tax rate with no adjustments when
estimating operating taxes.
13. The income tax footnote is a good source of information for deferred tax liabilities.
14. Usually, a company will record a DTL during the year of an acquisition and then draw
down the DTL as the intangible amortizes.
15. Making estimates of operating taxes based on tax rates in individual jurisdictions is not
recommended.
McKinsey/Valuation
123
16. Which of the following are operating deferred tax assets or deferred tax liabilities?
I. Nondeductible intangibles.
II. Tax loss carryforwards.
III. Accelerated depreciation.
IV. Pension and postretirement benefits.
V. Warranty reserves.
a) I, II, and IV.
b) III and V.
c) I, III, and V.
d) II, IV, and V.
17. Identify warranty reserves as operating or nonoperating and as an asset or a liability.
Explain how the required treatment of warranty reserves determines the relationship
between cash and accrual-based taxes.
