MINI CASE
Jenny Cochran, a graduate of The University of Tennessee with 4 years of experience as an
equities analyst, was recently brought in as assistant to the chairman of the board of
Computron Industries, a manufacturer of computer components.
During the previous year, Computron had doubled its plant capacity, opened new
sales offices outside its home territory, and launched an expensive advertising campaign.
Cochran was assigned to evaluate the impact of the changes. She began by gathering
financial statements and other data. Note: these are available in the file Ch02 Tool Kit.xlsx
in the Mini Case tab.
Mini Case: 2 – 12
to a publicly accessible website, in whole or in part.
Income Statements
2015
2016
Sales
$ 3,432,000
$ 5,834,400
Cost of goods sold
2,864,000
4,980,000
Other expenses
340,000
720,000
Depreciation
18,900
116,960
total operating costs
$ 3,222,900
$ 5,816,960
EBIT
$ 209,100
$ 17,440
Interest expense
62,500
176,000
Pretax earnings
$ 146,600
$ (158,560)
Taxes (40%)
58,640
(63,424)
Net income
$ 87,960
$ (95,136)
Other data
2014
2015
Stock price
$ 8.50
$ 6.00
Shares outstanding
100,000
100,000
EPS
$ 0.880
$ (0.951)
DPS
$ 0.220
$ 0.110
Mini Case: 2 – 13
Statement of Cash Flows
Operating activities
Net income
$ (95,136)
Adjustments:
noncash adjustments:
depreciation
116,960
changes in working capital:
change in accounts receivable
(280,960)
change in inventories
(572,160)
change in accounts payable
178,400
change in accruals
148,960
Net cash provided by operating activities
$ (503,936)
Investing activities
Cash used to acquire fixed assets
$ (711,950)
Cash due to change in short term investments
$ 28,600
Net cash provided by operating activities
$ (683,350)
Financing activities
change in notes payable
$ 520,000
change in long-term debt
$ 676,568
change in common stock
$ –
payment of cash dividends
$ (11,000)
Net cash provided by financing activities
$ 1,185,568
Summary
Net change in cash
$ (1,718)
Cash at beginning of year
9,000
Cash at end of year
$ 7,282
a. What effect did the expansion have on sales and net income? What effect did the
expansion have on the asset side of the balance sheet? What effect did it have on
liabilities and equity?
Mini Case: 2 – 14
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to a publicly accessible website, in whole or in part.
b. What do you conclude from the statement of cash flows?
Answer: Net CF from operations = –$503,936, because of negative net income and increases in
working capital. The firm spent $711,950 on FA. The firm borrowed heavily and
sold some short-term investments to meet its cash requirements. Even after
borrowing, the cash account fell by $1,718.
c. What is free cash flow? Why is it important? What are the five uses of FCF?
Answer: FCF is the amount of cash available from operations for distribution to all investors
(including stockholders and debtholders) after making the necessary investments to
support operations. A company’s value depends upon the amount of FCF it can
companies, etc.)
Mini Case: 2 – 15
d. What is Computron’s net operating profit after taxes (NOPAT)? What are
operating current assets? What are operating current liabilities? How much net
operating working capital and total net operating capital does Computron have?
Answer: NOPAT = EBIT(1 – TAX RATE)
Current year:
NOPAT = $17,440(1 – 0.4)
= $10,464.
normal part of operations. OP CL include: accounts payable and accruals. OP CA
exclude: notes payable, because this is a source of financing, not a part of operations.
Current year:
Total operating working capital = NOWC + net fixed assets.
Current year:
e. What is Computron’s free cash flow (FCF)? What are Computron’s “net uses”
of its FCF?
Uses of FCF:
2015
After-tax interest payment =
$105,600
Reduction (increase) in debt =
−$1,196,568
Payment of dividends =
$11,000
Repurchase (Issue) stock =
$0
Purchase (Sale) of short-term investments =
−$28,600
Total uses of FCF =
−$1,108,568
f. Calculate Computron’s return on invested capital (ROIC). Computron has a
10% cost of capital (WACC). What caused the decline in the ROIC? Was it due
to operating profitability or capital utilization? Do you think Computron’s
growth added value?
ANSWER: ROIC = NOPAT / TOTAL NET OPERATING CAPITAL.
Current year:
OP = $10,464 / $5,834,400
= 0.18%.
Previous year:
CR = 19.5%.
Commented [MCE1]: revised
Mini Case: 2 – 17
to a publicly accessible website, in whole or in part.
due to worse operating profitability (0.18% versus 2.15%) and worse capital
g. Cochran also has asked you to estimate Computron’s EVA. She estimates that
the after-tax cost of capital was 10 percent in both years.
ANSWER: EVA = NOPAT- (WACC)(CAPITAL).
Current year:
h. What happened to Computron’s market value added (MVA)?
If the market value of debt is close to the book value of debt, then MVA is market
value of equity minus book value of equity. Assume market value of debt equals
book value of debt.
Current year:
i. Assume that a corporation has $100,000 of taxable income from operations plus
$5,000 of interest income and $10,000 of dividend income. What is the
company’s tax liability?
taxable dividend income = dividends – exclusion
= $10,000 – 0.7($10,000)
= $3,000.
Mini Case: 2 – 19
j. Assume that you are in the 25 percent marginal tax bracket and that you have
$5,000 to invest. You have narrowed your investment choices down to
California bonds with a yield of 7 percent or equally risky ExxonMobil bonds
with a yield of 10 percent. Which one should you choose and why? At what
marginal tax rate would you be indifferent to the choice between California and
ExxonMobil bonds?
Answer: After-tax return income at t = 25%:
A-T yieldCalif. = 7.0%.
At what marginal tax rate would you be indifferent?
7.0% = 10.0%(1 – t). Solve for t.