Question

Grommit Engineering expects to have net income next year of $ 29.71 million and free cash flow of $ 22.01 million. ​ Grommit's marginal corporate tax rate is 30 %. a. If Grommit increases leverage so that its interest expense rises by $ 3.7 ​million, how will net income​ change? b. For the same increase in interest​ expense, how will free cash flow​ change?

a. If Grommit increases leverage so that its interest expense rises by $ 3.7 ​million, how will net income​ change? Net income will fall to ​$ ???? million. ​ (Round to two decimal​ places.)

b. For the same increase in interest​ expense, how will free cash flow​ change?  ​(Select the best choice​ below.)

A. Free cash flow decreases by the amount of the interest expense. B. Free cash flow increases by the amount of the interest expense. C. Free cash flow is not affected by interest expense. D. None of the above.

Answer 1

a

New net income = current net income-interest *(1-tax rate) = 29.71-3.7*(1-0.3)=27.12 m

b

Free cash flow will not change as interest expense is added back to net income while calculating FCF