Final answer:
Operating cash flow can be calculated by adding depreciation back to net income and subtracting taxes. With a net income of $10M, depreciation of $15M, and a tax rate of 20% applied to earnings before taxes (which is $15M), the operating cash flow of the firm is $22M.
Step-by-step explanation:
To find the operating cash flow of a firm, we need to adjust the net income for any non-cash items and changes in net working capital. In this scenario, the firm's net income is $10 million, but the net income doesn't reflect cash transactions such as depreciation and interest expenses. Since depreciation is a non-cash charge that reduces net income, we add it back to the net income. Interest expense is a cash outflow, but it is taken care of after the operating cash flow is calculated because it is a financing activity. Therefore, to calculate operating cash flow, we only need to adjust for depreciation. Taxes paid must also be considered since they reduce the cash available.
The formula for operating cash flow (OCF) is as follows:
OCF = Net Income + Depreciation - Taxes
To calculate taxes, we use the given tax rate of 20% and apply it to earnings before taxes (EBT), which is net income plus interest expense.
EBT = Net Income + Interest Expense = $10M + $5M = $15M
Taxes = Tax Rate × EBT = 20% × $15M = $3M
Now we can calculate the operating cash flow:
OCF = $10M + $15M - $3M = $22M
Therefore, the operating cash flow for the firm is $22 million.