Question

Watson Oil recently reported (in millions) $8,250 of sales, $5,750 of operating costs other than depreciation, and $1,000 of depreciation. The company had $3,200 of outstanding bonds that carry a 5% interest rate, and its federal-plus-state income tax rate was 35%. In order to sustain its operations and thus generate future sales and cash flows, the firm was required to make $1,250 of capital expenditures on new fixed assets and to invest $300 in net operating working capital. By how much did the firm's net income exceed its free cash flow? Do not round the intermediate calculations. Group of answer choices $526

Answer 1

Answer: 446

Step-by-step explanation:

Net Income will be calculated as:

=(Sales - Operating costs - Depreciation - Bond × interest rate) × (1-tax rate)

= (8250 - 5750 - 1000) - (3200 × 5%) × (1-35%)

= 1500 - (3200 × 0.05) × 65%

= (1500 - 160) × 0.65

= 1340 × 0.65

= 871

Free Cash flow will be calculated as:

= (8250-5750-1000) × (1-35%) + 1000 - 1250 - 300

= 425

The firm's net income will exceed its free cash flow by:

= 871 - 425

= 446