Ref 11-2
Champagne, Inc., had revenues of $12 million, cash operating expenses of $8 million, and depreciation and amortization of $1.5 million during 2008. The firm purchased $700,000 of equipment during the year while increasing its inventory by $500,000 (with no corresponding increase in current liabilities). The marginal tax rate for Champagne is 30 percent.
-Free cash flow: What is Provo's cash flows associated with investments for 2008?

Question

Quizplus · Accepted Answer

To calculate the cash flows associated with investments, we need to use the formula: 
Cash flows associated with investments = capital expenditures - change in net working capital
Capital expenditures = $700,000 (given)
The change in net working capital = increase in inventory - increase in current liabilities
Since there is no increase in current liabilities, the change in net working capital = $500,000
Therefore, the cash flows associated with investments = $700,000 - $500,000 = $200,000
To get the free cash flow, we need to subtract this amount from the cash flow from operations:
Cash flow from operations = revenues - cash operating expenses - depreciation and amortization = $12 million - $8 million - $1.5 million = $2.5 million
Free cash flow = cash flow from operations - cash flows associated with investments 
Therefore, free cash flow = $2.5 million - $200,000 = $800,000. 
Thus, the correct answer is choice C, $800,000.

Ref 11-2 Champagne, Inc., Had Revenues of $12 Million, Cash Operating Expenses