Question

Financial Management 317

Financial Statements
Bombay Energy recently reported (in million USD) $12,500 of Sales, $9,500 of Operating Costs other than Depreciation, and $925 of Depreciation. The company had $3,900 of outstanding bonds that carry a 6% Interest Rate, and its Federal-plus-State Income Tax Rate was 37%. In order to sustain its operations and thus generate future sales and cash flows, the firm was required to make $1,500 of Capital Expenditures on new fixed assets and to invest $450 in Net Operating Working Capital. Calculate Bombay's Net Income and Free Cash Flow.
2. Tangent Corporation, recently reported the following information:
• Net Income - $756,000
• Tax Rate -37% Interest Expense - $300,000
• Total Investor Supplied Capital - $10.5 million
• Weighted Average Cost of Capital -10%
What is the company's EVA?

Answer 1

Bombay Energy and Tangent Corporation

1. Bombay Energy

a) Net Income:

Sales $12,500

Operating Costs $9,500

Gross profit $3,000

Depreciation $925

EBIT $2,075

Interest Expense $234

EBT $1,841

Taxes (37%) (681)

Net Income $1,160

b) Free Cash Flow:

= $283

2. Tangent Corporation

a) EVA:

= -$762,720

Step-by-step explanation:

a) Bombay Data:

Sales $12,500

Operating Costs $9,500

Depreciation $925

Outstanding bonds = $3,900

Interest Rate on bonds = 6%

Interest expense = $234 ($3,900 * 6%)

Federal and State Income Tax Rate = 37%

Capital expenditures = $1,500

Net Operating Working Capital investment = $450

b) Bombay' Free Cash Flow equals its earnings before interest and taxes multiplied by (1 − tax rate), add depreciation and amortization, and then subtract changes in working capital and capital expenditure.

EBIT $2,075 (1 - 37%)

Depreciation 925

Capital expenditure (1,500)

Net working capital (450)

Free Cash Flow $283

= $1,307 + 925 - ($1,500 + 450)

= $283

c) Tangent Data:

Net Income - $756,000

Interest Expense - $300,000

Income before tax $456,000

Tax Rate -37% (168,720)

NOPAT $287,280

Total Investor Supplied Capital - $10.5 million

Weighted Average Cost of Capital -10%

The formula for calculating EVA is:

EVA = NOPAT - (Invested Capital * WACC)

Where:

NOPAT = Net operating profit after taxes

Invested capital = Debt + capital leases + shareholders' equity

WACC = Weighted average cost of capital

= $287,280 - ($10,500,000 * 10%)

= $287,280 - 1,050,000

= -$762,720