2504c_1101 - BUSI 2504c Essentials of Business Finance...

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Unformatted text preview: BUSI 2504c - Essentials of Business Finance Monday, November 1, 2010 §9 (cont.) §2 examples Cash Flow chapter 9 (cont.): buy or lease? - examples Oliver is looking to start a printing shop using a Xerox color laser printer. He has two options: • • acquire the printer for $30,000 today, and sell it used on eBay for $3,000 five years from now; or lease it for five years with a $10,000 downpayment today, and $5,000 per year payable at year end. He expects to generate annual revenues of $10,000 while operating this printer, which will require $1,000 of maintenance in year 4 whether he buys the printer or leases it. 1 What are the yearly cash flows for the buying option? 2 What is the payback period for the buying option? 3 What is the net present value for the buying option given a 10% discount rate? BUSI 2504c Monday, November 1, 2010 2 / 33 chapter 9 (cont.): buy or lease? - examples (cont.) 4 What is the internal rate of return for the buying option? 5 What are the yearly cash flows for the leasing option? 6 What is the net present value for the leasing option given a 10% discount rate? 7 What is the internal rate of return for the leasing option? 8 Should Oliver buy or lease this printer? answers: (1) -30000, 10000, 10000, 10000, 9000, 13000; (2) 3 years; (3) 9087.62; (4) 20.93%; (5) -10000, 5000, 5000, 5000, 4000, 5000; (6) 8270.92; (7) 39.49%; (8) BUY, because buying option has higher NPV. BUSI 2504c Monday, November 1, 2010 3 / 33 chapter 2: financial statements • §2.1 - balance sheet • §2.2 - income statement • §2.3 - cash flow • §2.4 - taxes • §2.5 - capital cost allowance (cca) BUSI 2504c Monday, November 1, 2010 4 / 33 financial statements: balance sheet (figure 2.1, page 28) Total Value of Assets Net working capital Total Value of the Firm to Investors Current liabilities Current assets Long-term debt Fixed assets 1. Tangible fixed assets 2. Intangible fixed assets Shareholders' equity BUSI 2504c Monday, November 1, 2010 5 / 33 2.1 balance sheet: canadian entreprise (table 2.1, p.29) CANADIAN ENTERPRISES LIMITED Balance Sheets as of December 31, 2005 and 2006 ($ millions) 2005 Assets Current assets Cash Accounts receivable Inventory Total Fixed assets Net, plant and equipment $ 114 445 553 $1,112 $ 160 688 555 $1,403 2006 2005 2006 Liabilities and Owners’ Equity Current liabilities Accounts payable $ 232 $ 266 Notes payable 196 123 Total $ 428 $ 389 Long-term debt Owners’ equity Common shares Retained earnings Total Total liabilities and owners’ equity $ 408 600 1,320 $1,920 $2,756 $ 454 640 1,629 $2,269 $3,112 $1,644 $1,709 Total assets $2,756 $3,112 BUSI 2504c Monday, November 1, 2010 6 / 33 2.1 balance sheet: balance sheet - example 1 At year-end 2006, Jordan Company’s balance sheet showed current assets = $800, fixed assets = $1,500, intangible assets = $300, current liabilities = $600, and long-term liabilities = $1,400. What is the value of the shareholders’ equity account? answer: $600 BUSI 2504c Monday, November 1, 2010 7 / 33 2.1 balance sheet: balance sheet - example 2 If total assets = $550, fixed assets = $375, current liabilities = $140, equity = $265, long-term debt = $145, and current assets is the only remaining item on the balance sheet, what is the value of net working capital? answer: $35 BUSI 2504c Monday, November 1, 2010 8 / 33 2.1 balance sheet: market value - example Chadwick Industries has equipment with a book value of $18 million that could be sold today for $21 million. The inventory is valued at $5.6 million and could be sold to a competitor today for $5.1 million. The firm has $740 thousand in cash and customers owe them $2.6 million. What is the total market value of the firm’s assets? answer: $29.44 million BUSI 2504c Monday, November 1, 2010 9 / 33 2.1 balance sheet: book value - example Cantrell Industries spent $386,000 to purchase equipment three years ago. This equipment is currently valued at $276,000 on today’s balance sheet but could actually be sold for $298,000. Net working capital is $56,000 and long-term debt is $171,000. What is the book value of shareholders’ equity? answer: $161,000 BUSI 2504c Monday, November 1, 2010 10 / 33 2.2 income statement: canadian entreprise (table 2.2, p.29) CANADIAN ENTERPRISES 2006 Income Statement ($ millions) Net sales Cost of goods sold Depreciation Earnings before interest and taxes Interest paid Income before taxes Taxes Net income Addition to retained earnings Dividends $1,509 750 65 $ 694 70 $ 624 250 $ 374 $ 309 65 BUSI 2504c Monday, November 1, 2010 11 / 33 2.3 cash flow: concept of cash flow • Cash flow is one of the most important pieces of information that a financial manager can derive from financial statements • We will look at how cash is generated from utilizing assets and how it is paid to those that finance the purchase of the assets BUSI 2504c Monday, November 1, 2010 12 / 33 2.3 cash flow: canadian entreprise (table 2.3, p.33) CANADIAN ENTERPRISES 2006 Operating Cash Flow Earnings before interest and taxes + Depreciation – Taxes Operating cash flow $694 65 250 $509 BUSI 2504c Monday, November 1, 2010 13 / 33 2.3 cash flow: operating, financing, and investing activities OPERATING ACTIVITIES suppliers buy on credit accounts payables accounts receivables sale on credit customers employees cash buy salaries receive payment cash sale pay invoice FINANCING ACTIVITIES shareholders buy shares dividends buy bon ds INVESTING ACTIVITIES CASH buy salvage fixed assets bondholders/ banks re inte rin st/p al cip cash transactions non-cash transactions BUSI 2504c Monday, November 1, 2010 14 / 33 2.3 cash flow: cash flow from assets • Operating Cash Flow (OCF) results from day-to-day activities of producing and selling, expenses from financing assets are not included since they are not operating expenses. • Net Capital Spending (NCS) is money spent on fixed assets less money received from the sale of fixed assets (ie. salvage). • changes in Net Working Capital (NWC) show how current assets and liabilities differ from year-to-year, eg. more accounts receivable and inventory needed to support higher sales. BUSI 2504c Monday, November 1, 2010 15 / 33 2.3 cash flow: cash flow to creditors and shareholders • cash flow to creditors is interest paid on debt less “net new borrowing” (“principal paid back” - “new borrowing”) • cash flow to shareholders is dividends paid less “net new equity” (“shares repurchased” - “new shares issued”) BUSI 2504c Monday, November 1, 2010 16 / 33 2.3 cash flow: cash flow identity similar to balance sheet identity (assets = liabilities + equity) The first equation is how the cash flow from the firm is divided among the investors that financed the assets: cash flow from assets = cash flow to creditors interest paid + principal paid - new borrowing + cash flow to stockholders dividends paid + stock repurchased - new stock issued BUSI 2504c Monday, November 1, 2010 17 / 33 2.3 cash flow: cash flow identity (cont.) The second equation is the cash flow that the firm receives from its assets: cash flow from assets operating cash flow EBIT + depreciation - taxes = net capital spending additions to NWC ending NWC - beginning NWC − − ending fixed assets - beginning fixed assets + depreciation EBIT = earnings before interest and taxes BUSI 2504c Monday, November 1, 2010 NWC = net working capital 18 / 33 2.3 cash flow: example Given the following income statement data, calculate operating cash flow: net sales = $16,500, cost of goods sold = $10,350, operating expenses = $3,118, depreciation = $1,120, interest expense = $900, tax rate = 34%. answer: $2,687.92 BUSI 2504c Monday, November 1, 2010 19 / 33 2.3 cash flow: example If net income = $46,750, depreciation expense = $20,000, interest expense = $10,000, and the tax rate = 15%, what is operating cash flow? answer: $76,750 BUSI 2504c Monday, November 1, 2010 20 / 33 2.3 cash flow: cash flow identity - bubblegum inc. example 2005 Cash Accounts rec. Inventory Current assets Net fixed assets Total assets Accounts payable Notes payable Current liabilities Long-term debt Total liabilities Common stock Retained earnings Total equity 100 350 440 890 1,556 2,446 400 390 790 500 1,290 600 556 1,156 2006 121 425 410 956 1,704 2,660 350 370 720 550 1,270 580 810 1,390 Net sales Less: Cost of goods sold Less: Depreciation EBIT Less: Interest paid Taxable income Less: Taxes Net income Dividends paid 2006 1,384 605 180 599 80 519 156 363 109 Find (i) OCF, (ii) NCS, (iii) changes in NWC, (iv) CFFA, (v) cash flow to creditors, and (vi) cash flow to shareholders. answers: 623, 328, 136, 159, 30, 129 BUSI 2504c Monday, November 1, 2010 21 / 33 2.3 cash flow: cash flow identity - example 2 2005 Sales COGS Interest Dividends Depreciation Cash Accounts receivables Current liabilities Inventory Long-term debt Net fixed assets Common stock Tax rate $740 430 33 16 250 70 563 390 662 340 1,680 700 35% 2006 $785 460 35 17 210 75 502 405 640 410 1,413 235 35% 1 What is the net working capital for 2006? 2 What is the change in net working capital from 2005 to 2006? 3 What is net capital spending for 2006? 4 What is the operating cash flow for 2006? 5 What is the cash flow from assets for 2006? 6 What is net new borrowing for 2006? 7 What is the cash flow to creditors for 2006? 8 What is the cash flow to stockholders for 2006? 22 / 33 answers: 812, -93, -57, 297, 447, 70, -35, 482 BUSI 2504c Monday, November 1, 2010 2.4 taxes: T1 personal income tax return T1 GENERAL 2009 Income Tax and Benefit Return Complete all the sections that apply to you in order to benefit from amounts to which you are entitled. Identification Information about you Attach your personal label here. Correct any wrong information. If you are not attaching a label, print your name and address below. First name and initial Last name Mailing address: Apt No – Street No Street name PO Box City RR Prov./Terr. Postal code Enter your social insurance number (SIN) if it is not on the label, or if you are not attaching a label: Enter your date of birth: Your language of correspondence: Votre langue de correspondance : English Year Month ON 1 Day Français Tick the box that applies to your marital status on December 31, 2009: (see the "Marital status" section in the guide) 1 4 Married Divorced 2 5 Living common-law Separated 3 6 Widowed Single Information about your spouse or common-law partner (if you ticked box 1 or 2 above) (see the guide for more information) Enter his or her SIN if it is not on the label, or if you are not attaching a label: Information about your residence Enter his or her first name: Enter your province or territory of residence on December 31, 2009: Enter his or her net income for 2009 to claim certain credits: Enter the amount of Universal Child Care Benefit included on line 117 of his or her return: Enter the amount of Universal Child Care Benefit repayment included on line 213 of his or her return: Enter the province or territory where you currently reside if it is not the same as that shown above for your mailing address: If you were self-employed in 2009, BUSI 2504c enter the province or territory of Monday, November 1, 2010 23 / 33 2.4 taxes: sole proprietorship and partnership - guide Business and Professional Income Includes Form T2125, Statement of Business or Professional Activities 2008 BUSI 2504c Monday, November 1, 2010 24 / 33 2.4 taxes: sole proprietorship and partnership - T2125 form Statement of Business or Professional Activities For each business or profession, complete a separate Form T2125. File each completed Form T2125 with your Income Tax and Benefit Return. For more information on how to complete this form, see Guide T4002, Business and Professional Income. Identification Your name Your social insurance number – Business name Business Number – Business address City, province, or territory Postal code Fiscal period From: Main product or service Year Month Day To: Year Month Day Was 2008 your last year of business? Yes Industry code (see the appendix in the Business and Professional Income guide) No Tax shelter identification number Partnership filer identification number Your percentage of the partnership % Name and address of person or firm preparing this form Part 1 – Business income 2. If you have business income, tick this box and complete this part. Do not complete parts 1 and 2 on the same form. A Sales, commissions, or fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Minus Goods and services tax/harmonized sales tax (GST/HST) and provincial sales tax (PST) (if included in sales above) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Returns, allowances, and discounts (if included in sales above) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Total of the above two lines BUSI 2504c Monday, November 1, 2010 25 / 33 B 2.4 taxes: T2 corporation income tax return T2 CORPORATION INCOME TAX RETURN (2008 and later tax years) 200 Code 0801 055 Do not use this area This form serves as a federal, provincial, and territorial corporation income tax return, unless the corporation is located in Ontario (for tax years ending before 2009), Quebec, or Alberta. If the corporation is located in one of these provinces, you have to file a separate provincial corporation return. Parts, sections, subsections, and paragraphs mentioned on this return refer to the federal Income Tax Act. This return may contain changes that had not yet become law at the time of printing. Send one completed copy of this return, including schedules and the General Index of Financial Information (GIFI), to your tax centre or tax services office. You have to file the return within six months after the end of the corporation's tax year. For more information see www.cra.gc.ca or Guide T4012, T2 Corporation – Income Tax Guide. Identification Business Number (BN) . . . . . . . . . . . . . . Corporation's name 002 001 R C Tax year-end To which tax year does this return apply? Tax year start 060 061 YYYY MM DD YYYY MM DD Address of head office Has this address changed since the last time you filed your T2 return? (If yes, complete lines 011 to 018) 011 012 City 015 Country (other than Canada) 017 Has there been an acquisition of control to which subsection 249(4) applies since the previous tax year? . . . . . . . . . . . . . . . . 010 1 Yes 2 No If yes, provide the date control was acquired . . . . . . . . . . . . . . . . . . . . . . . . . . 063 1 Yes 065 YYYY 2 No MM DD Province, territory, or state 016 Postal code/Zip code 018 Is the date on line 061 a deemed tax year-end in accordance with subsection 249(3.1)? . . . . . . . . . . . . . . . . . . . . . . . . . Is the corporation a professional corporation that is a member of a partnership? . . . . . . . . . . . . . . . . . . . . . . Is this the first year of filing after: 066 1 Yes 2 No 067 Mailing address (if different from head office address) Has this address changed since the last time you filed your T2 return? 020 1 Yes (If yes, complete lines 021 to 028) 021 022 023BUSI c/o 1 Yes 2 No 2 No Incorporation? . . . . . . . . . . . . . . . . . . . . 070 1 Yes Amalgamation? . . . . . . . . . . . . . . . . . . . . 071 1 Yes If yes, complete lines 030 to 038 and attach Schedule 24. Has there 2010 Monday, November 1, been a wind-up of a 2 No 2 No 2504c 26 / 33 2.4 taxes: average tax rate - example taxable income 0 - 50,000 50,001 - 75,000 75,001 - 100,000 100,001 - 335,000 tax rate 15% 25% 34% 39% What is the average tax rate for a firm with taxable income of $178,500? answer: 29.62 % BUSI 2504c Monday, November 1, 2010 27 / 33 2.4 taxes: marginal tax rate - example taxable income 0 - 50,000 50,001 - 75,000 75,001 - 100,000 100,001 - 335,000 tax rate 15% 25% 34% 39% Your firm currently has taxable income of $98,650. How much additional tax will you owe if you increase your taxable income by $13,000? answer: $5,002.50 BUSI 2504c Monday, November 1, 2010 28 / 33 2.5 capital cost allowance (cca) • CCA is depreciation for tax purposes • CCA is deducted before taxes and acts as a tax shield • Every capital asset is assigned to a specific asset class by the government • Every asset class is given a depreciation method and rate • Half-year Rule - In the first year, only half of the asset’s cost can be used for CCA purposes BUSI 2504c Monday, November 1, 2010 29 / 33 2.5 capital cost allowance: canada revenue agency (cra) form Area A – Calculation of capital cost allowance (CCA) claim 1 Class number 2 Undepreciated capital cost (UCC) at the start of the year 3 Cost of additions in the year (see areas B and C below) 4 Proceeds of dispositions in the year (see areas D and E below) 5* UCC after additions and dispositions (col. 2 plus col. 3 minus col. 4) 6 7 Adjustment for currentBase amount for year additions CCA 1/2 x (col. 3 minus (col. 5 minus col. 6) col. 4) If negative, enter "0." 8 Rate % 9 CCA for the year (col. 7 x col. 8 or an adjusted amount) 10 UCC at the end of the year (col. 5 minus col. 9) Total CCA claim for the year (enter this amount, minus any personal part and any CCA for business-use-of-home expenses, on line 9936 in Part 5 on page 2**) * If you have a negative amount in this column, add it to income as a recapture on line 8230, "Other income," in Part 3 on page 1. If no property is left in the class and there is a positive amount in the column, deduct the amount from income as a terminal loss on line 9270, "Other expenses," in Part 5 on page 2. Recapture and terminal loss do not apply to a class 10.1 property. For more information, see Chapter 4 in the Business and Professional Income guide. ** For information on the CCA for "Calculation of business-use-of-home expenses," see Chapter 4 – "Special Situations" in the Business and Professional Income guide. Area B – Details of equipment additions in the year 1 Class number 2 Property details 3 Total cost 4 Personal part (if applicable) 5 Business part (column 3 minus column 4) BUSI 2504c Monday, November 1, 2010 30 / 33 2.5 capital cost allowance: canada revenue agency asset classes CCA classes The following is a list of commonly used assets in a business. Class 1 Rate (%) 4 Description Most buildings you bought after 1987, including components such as wiring, plumbing, heating, and cooling systems. Under proposed changes to the Income Tax Regulations, the rate for eligible non-residential buildings acquired after March 18, 2007 used for manufacturing and processing in Canada of goods for sale or lease will increase to 10%. For all other eligible non-residential buildings, the rate will increase to 6%. For more information, see page 32. Most buildings including components that you bought after 1978 and before 1988. However, you may have to include part of the cost of additions made after 1987 in class 1. For more details, see Interpretation Bulletin IT-79, Capital Cost Allowance – Buildings or Other Structures. Frame, log, stucco on frame, galvanized iron, or corrugated metal buildings that do not have any footings below the ground. Class 6 also includes fences and greenhouses. Canoes, rowboats, and most other vessels and their motors, furniture, and fittings. For more details, see Interpretation Bulletin IT-267, Capital Cost Allowance – Vessels. Property that you did not include in any other class. Some examples are fixtures, furniture, machinery, photocopiers, refrigeration equipment, telephones, and tools that cost $200 or more. Under proposed changes, the cost limit will increase to $500 for tools acquired after May 1, 2006. Class 8 also includes outdoor advertising signs you bought after 1987. Aircraft, including furniture or equipment attached to the aircraft, and spare parts. Automobiles, except those you use as a taxi or in a daily rental business, including vans, trucks, tractors, wagons, and trailers. General-purpose electronic data-processing equipment (commonly called computer hardware) and systems software acquired before March 23, 2004. See also class 45. A passenger vehicle. See page 36 for the capital cost limits. China, cutlery, kitchen utensils that cost under $200, linen, uniforms, dies, jigs, moulds, cutting or shaping parts of a machine, tools and medical or dental instruments that cost under $200, computer software (except systems software), and video cassettes bought after February 15, 1984, that you rent and do not expect to rent to any one person for more than 7 days in a 30-day period. Under proposed changes, the cost limit will increase to $500 from $200 for tools acquired after May 1, 2006. The cost limit for medical or dental instruments and kitchen utensils under Class 12 will increase to $500 from $200 for such utensils and instruments acquired after May 1, 2006. Tools eligible under this class specifically exclude electronic communication devices and electronic data processing equipment. Leasehold interest – You can claim CCA on a leasehold interest, but the maximum rate depends on the type of Monday, November 1, 2010 31 / 33 3 5 6 7 8 10 15 20 9 10 25 30 10.1 12 30 100 13 BUSI 2504c 2.5 capital cost allowance: additional concepts • Usually firms have multiple machines (i.e. more than one photocopier) in an asset class. • When an asset is sold, the asset class is reduced by the realized value of the asset, or by its original cost, whichever is less. • When the last asset in an asset class is sold, the asset class is terminated. This can result in a terminal loss or recaptured CCA. BUSI 2504c Monday, November 1, 2010 32 / 33 2.5 capital cost allowance: example ABC Corporation purchased $100,000 worth of photocopiers in 2004. Photocopiers fall under asset class 8 with a CCA rate of 20%. How much CCA will be claimed in 2004 and 2005? answer: $28,000 BUSI 2504c Monday, November 1, 2010 33 / 33 ...
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