Question

Cash flow. Assume a firm has earnings before depreciation and taxes of $200,000 and no depreciation. It is in a 40 percent tax bracket.

         a.     Compute its cash flow (5 Points)

         b.     Assume it has $200,000 in depreciation. Recompute cash flow (5 Points)

         c.     How large a cash flow benefit did the depreciation provide (5 Points)

Answer 1

a.

Earnings before depreciation and taxes	200,000
Depreciation	-0
Earnings before taxes	200,000
Taxes at 40%	-80,000
Earnings after taxes	120,000
Depreciation	+0
Cash flow	120,000

b.

Earnings before depreciation and taxes	200,000
Depreciation	-200,000
Earnings before taxes	0
Taxes at 40%	-0
Earnings after taxes	0
Depreciation	+200,000
Cash flow	200,000

c. Cash flow benefit of $80,000. (200,000