Principles of Managerial Finance

130 PART 1 Introduction to Managerial Finance

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PROBLEMS

3–1 Depreciation On March 20, 2003, Norton Systems acquired two new assets.

Asset A was research equipment costing $17,000 and having a 3-year recovery

period. Asset B was duplicating equipment having an installed cost of

$45,000 and a 5-year recovery period. Using the MACRS depreciation percent-

ages in Table 3.2 on page 100, prepare a depreciation schedule for each of

these assets.

3–2 Accounting cash flow A firm had earnings after taxes of $50,000 in 2003.

Depreciation charges were $28,000, and a $2,000 charge for amortization of a

bond discount was incurred. What was the firm’s accounting cash flow from

operations(see Equation 3.1) during 2003?

3–3 MACRS depreciation expense and accounting cash flow Pavlovich Instru-

ments, Inc., a maker of precision telescopes, expects to report pre-tax income of

$430,000 this year. The company’s financial manager is considering the timing

of a purchase of new computerized lens grinders. The grinders will have an

installed cost of $80,000 and a cost recovery period of 5 years. They will be

depreciated using the MACRS schedule.

a. If the firm purchases the grinders before year end, what depreciation expense

will it be able to claim this year? (Use Table 3.2 on page 100.)

b. If the firm reduces its reported income by the amount of the depreciation

expense calculated in part a,what tax savings will result?

c. Assuming that Pavlovich does purchase the grinders this year and that

they are its only depreciable asset, use the accounting definition given

in Equation 3.1 to find the firm’s cash flow from operationsfor the

year.

3–4 Depreciation and accounting cash flow A firm in the third year of depreciat-

ing its only asset, which originally cost $180,000 and has a 5-year MACRS

recovery period, has gathered the following data relative to the current year’s

operations.

a. Use the relevant datato determine the accounting cash flow from operations

(see Equation 3.1) for the current year.

b. Explain the impact that depreciation, as well as any other noncash charges,

has on a firm’s cash flows.

3–5 Classifying inflows and outflows of cash Classify each of the following items as

an inflow (I) or an outflow (O) of cash, or as neither (N).

Accruals $ 15,000

Current assets 120,000

Interest expense 15,000

Sales revenue 400,000

Inventory 70,000

Total costs before depreciation, interest, and taxes 290,000

Tax rate on ordinary income 40%