The General Motors Corporation is introducing a new product and which is expecte
ID: 2789668 • Letter: T
Question
The General Motors Corporation is introducing a new product and which is expected to result in
change in EBIT or $700,000. The firm has a 34 percent marginal tax rate. This product will also
produce $200,000 of depreciation per year. In addition, this product will cause the following
changes:
Balance Sheet Account
Without the product
With the product
Accounts receivable
$60,000
$95,000
Inventory
55,000
165,000
Accounts payable
45,000
70,000
1) Calculate the change in net working capital?
2) Calculate the product’s change in taxes.
3) What is the product’s free cash flow?
Balance Sheet Account
Without the product
With the product
Accounts receivable
$60,000
$95,000
Inventory
55,000
165,000
Accounts payable
45,000
70,000
Explanation / Answer
Answer 1:
Change in net working capital : change in current assets - chang in current liabilities
Accounts receivable and inventory comes under the current assets
change in current assets =(95000 +165000 - 60000-55000)
change in current assets = $145000 increase in current assets
change in current liabilities = accounts payable now - accounts payable after
change in current liabilities = 70000-45000
change in current liabilties = 25000 increase
Change in net working capital = $145000- $25000
Change in net working capital = $120000
2. change in EBIT = $700000 increase
tax rate = 34%
increase in tax because of increase in EBIT = 700000* 0.34 = $238000
3. product free cash flow :
Free cash flow = EBIT( 1 - tax rate ) + depreciation + amortization - change in net working capital - capital expenditure
putting the values
free cash flow = 700000(1-0.34) + 200000 + 0 -120000 -0
Free cash flow = 462000 + 200000 -120000
Free cash flow = $542000
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