Free Cash Flow The 2010 income statement for Pete's Pumpkins shows that depreciation expense is $250 million,EBIT is $500 million,EBT is $320 million,and the tax rate is 30 percent.At the beginning of the year,the balance of gross fixed assets was $1,600 million and net operating working capital was $640 million.At the end of the year gross fixed assets was $2,000 million.Pete's free cash flow for the year was $630 million.What is their end of year balance for net operating working capital?

Question

Quizplus · Accepted Answer

Free Cash Flow (FCF) is calculated as:

FCF = EBIT*(1-T) + Depreciation - Capital Expenditures - ΔNet Operating Working Capital

where ΔNet Operating Working Capital = (Ending NOWC - Beginning NOWC)

FCF is given as $630 million. Given values are:

Depreciation = $250 million 
EBIT = $500 million 
EBT = $320 million 
Tax rate = 30% 
Beginning Gross Fixed Assets (GFA) = $1,600 million 
Beginning NOWC = $640 million 
Ending GFA = $2,000 million

We can first calculate the Capital Expenditures=Cexp.

Cexp= Ending GFA - Beginning GFA + Depreciation 
= $2,000 million - $1,600 million + $250 million 
= $650 million

Using Free Cash Flow formula:

$630 million = $500 million*(1-0.30) + $250 million - $650 million - ΔNOWC

Solving for ΔNOWC:

ΔNOWC = $264 million

We can now find the ending NOWC:

Ending NOWC = Beginning NOWC + ΔNOWC 
= $640 million + $264 million 
= $904 million

Therefore, the end of year balance for net operating working capital is $264 million (Choice B).

Free Cash Flow the 2010 Income Statement for Pete's Pumpkins