Question

10) ABC Corporation has $450,000 in gross profit with $120,000 in depreciation expense. 123 Corporation has $450,000 in gross profit with $40,000 in depreciation expense. Each company had $75,000 in selling and administration expenses. The tax rate for each company is 18%. Calculate the cash flow for each company. Explain any differences.

Answer 1

First company:

gross profit = 450000

depreciation = 120000

selling and administration exp=75000

tax rate =18%

Cash flow = (gross profit - depreciaiton)-selling and adm exp.)*(1-tax rate)) + depreciation

=((450000-120000-75000)*(1-18%))+120000

=329100

Cash flow of first company is $329100

second company:

gross profit = 450000

depreciation = 40000

selling and administration exp=75000

tax rate =18%

Cash flow = (gross profit - depreciaiton)-selling and adm exp.)*(1-tax rate)) + depreciation

=((450000-40000-75000)*(1-18%))+40000

=314700

Cash flow of second company is $314700

Explaination: Each company has same in all things except Depreciaiton. Depreciaiton is a non cash expenditure. But it is deducted for cash flow calculation, because it is deductible for tax purpose. It is again added because it is not a cash flow. Thats why First company has higher cash flow, as tax benefit of depreciaiton availed is higher in case of first company due to higher depreciaiton and second company has lowe cash flow due to lower depreciaiton