Question

The owner of a bicycle repair shop forecasts revenues of $160,000 a year. Variable costs will be $50,000, and rental costs for the shop are $30,000 a year. Depreciation on the repair tools will be $10,000. (LO9-2) a. Prepare an income statement for the shop based on these estimates. The tax rate is 20%. b. Now calculate the operating cash flow for the repair shop using all three methods suggested in the chapter. All three approaches should result in the same value for cash flow. i. Dollars in minus dollars out. ii. Adjusted accounting profits. iii. Add back depreciation tax shield.

Answer 1

Answer:

A. $66,000  

B. $66,000  

C. $66,000  

Explanation:

Dollars in dollars out can be easily understood by just deducting cash expenses from the revenue received from cash sales. we can not deduct depreciation expense as it is a non-cash item.

DATA

Revenue = 160,000

Variable cost = 50,000

Rental cost = 30,000

Depreciation = 10,000

Profit before tax = 70,000

Tax (70,000 x 20%) = 14,000

Net Income = 56,000

a) Dollars in minus dollars out

Dollars in minus dollars out  = Revenue - rental costs - variable costs - taxes Dollars in minus dollars out = $160,000 - $30,000 - $50,000 - $14,000

Dollars in minus dollars out  = $66,000  

b) Adjusted accounting profits

Operating cash flow = Net income + depreciation

Operating cash flow = $56,000 + $10,000

Operating cash flow = $66,000

c) Add back depreciation tax shield

Operating cash flow = [(Revenue - rental costs - variable costs) × (1 - 0.2)] + (depreciation × 0.2)]

Operating cash flow = ($160,000 - $30000 - $50,000)*0.8 + $10,000*0.2 Operating cash flow = $66,000