Q.2 (requires a bit of thinking)
GIVEN-1: XYZ has annual revenue of 200, annual COGS and SG&A(combined)=100; The book value of PP&E=300; PP&E’s useful life of 10 years.
At the end of every year, the XYZ pays out its annual free cash flows to stockholders. After 10 years the firm is liquidated at liquidation value of 0;
GIVEN-2: Assume discount rate of 10% and tax rate of 20%. Assume that IRS classifies XYZ’s asset as having a 15 years useful life and requires a straight line depreciation[1].
Q.2.1 What is the “Value” of XYZ at the outset of its operation?
Q.2.2 After its free cash flows for Year 5 were paid out,
calculate the “Market Value “ of XYZ’s , and
· the size of the deferred tax assets on XYZ’s B/S;
· the net book value of its PP&E?
Q.2.3 At the outset of Year 6 the tax rate was unexpectedly changed to 5%. Now calculate
· the “Market Value “of XYZ at the outset of Year 6 ;
· the size of cash and of deferred taxes on B/S of XYZ’s?
· the net book value of its PP&E?
Q. 3 Assume that
· WLD has annual revenue=200, COGS =$160; SG&A(combined)=50;
· Book value of PP&E=300 ; PP&E’s useful life =10.
· IRS allows only a straight line depreciation. Tax rate 20 %.
Q.3.1 What is the NI and Tax Bill of WLD
Q.3.2. Now assume that WLD is able to reclassify $100 of COGS as CapEx. What is the NI and Tax Bill of WLD
Q.3.3. Explain the article#1 in Appendix
[1] At the end of year 10, book value of PP&E will be 100 for 15 years’ depreciation scheme and market value -0. Result- a 100 capital loss and a tax refund.