Hey guys,
how do I answer this question - so a company bought $100 of equipment, but half with debt and half with cash. What would happen to the three statements in the 2nd yr?
Thanks so much for the help!!
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take into account D&A on the equipment, interest on the debt, and amortization on the debt
Ask the interviewer if they can provide you with the following items, and if they refuse then you'll need to make your own assumptions for: - Tax Rate - Interest on Debt - Amortization on Debt - Depreciation rate on equipment
For example, we will assume 10 year straight-line depreciation, 10% Debt interest, 40% tax rate, and no amortization on Debt for simplicity:
Income statement: - Depreciation X of $10 - Interest X of $5 - Pre-Tax Income down by $15 - Tax X of $6 - Net Income down by $9
Cash Flow Statement: - Net Income down by $9 - Add back depreciation X of $10 - No other changes... - Change in cash is $1
Balance Sheet: - Cash up $1 - Equipment down $10 - Assets = -$9 - Retained Earnings down $9 - L&OE = -$9 - Balanced
If you were to account for amortization on the debt, you would have a different interest expense year two. So, for example, if you amortize $10 of debt per year, but still need to pay the 10% interest on debt, in year two you would be only pay $4 of Interest X (10% * $40 in debt, since we paid down $10 in year 1). You would then need to show the change in cash from the debt paydown in year two, which then floats to the balance sheet to decrease debt and cash (too lazy to type it out nicely like the above).
Cheers mate, J. Peps
thanks so much mate, this is super helpful. So what you've typed up above is for year 1 right? and for year 2 if there is amortization on debt all the changes would add on top of year 1 stuff?
Assuming no amortization on debt, my original post could apply to any year (other than once your equipment finally runs to $0... and we don't know when Debt needs to be paid back by unless they tell you)
If we assume there is amortization, let's say $10 of amortization per year, I would assume amortization is paid at the END of year 1. So, we would still pay $5 in interest (full $50 of debt * 10%) in year 1. In the following years you would begin to pay less and less interest x. In year 2 you would only pay $4 ($40 of debt * 10%, since we paid $10 down from original debt figure), year 3 you would only pay $3 ($30 of debt * 10%, since we paid $20 down from the original debt figure), etc.
Hey guys, I previously purchased the supplies and are not buying any new ones, we analyzed this to decrease the liability accounts payable and the asset cash.
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