Question

Assume two identical (hypothetical) company's, CAP inc. and NOW inc. (NOW), start with 1,000 cash and 1,000 common stock. Each year the companies recognize total revenues of 1500 cash and make cash expenditures of 500 (excluding an equipment purchase). At the beginning of operations, each company pays 900 to purchase equipment. CAP estimates the equipment will have a useful life of three years and an estimated salvage value of 0 at the end of the three years. Now estimates a much shorter useful life and expenses the equipment immediately. The companies have other assets and make no other asset purchases during the three-year period. Assume the companies pay no dividends, earn zero interest on cash balances, have a tax rate of 10 percent, and use the same accounting method for financial and tax purposes.

1. which company reports higher net income during the first year, second year, and third year?

2.Which company reports higher cash from operations for each of the three years?

if anything formulas to know how to solve it.

Answer 1

1-
CAP COMPANY		Year 1	Year 2	Year 3
Income statement
total revenue		1500	1500	1500
total cash expenditure		500	500	500
less depreciation		900	0	0
operating profit		100	1000	1000
tax-10%		10	100	100
net income		90	900	900
NOW COMPANY		Year 1	Year 2	Year 3
Income statement
total revenue		1500	1500	1500
total cash expenditure		500	500	500
less depreciation =900/3		300	300	300
operating profit		700	700	700
tax-10%		70	70	70
net income		630	630	630
Year	Cap Company net income	Now company net income	Higher Net income
1	90	630	Now company
2	900	630	CAP company
3	900	630	CAP company
CAP COMPANY		Year 1	Year 2	Year 3
Income statement
total revenue		1500	1500	1500
total cash expenditure		500	500	500
less depreciation		900	0	0
operating profit		100	1000	1000
tax-10%		10	100	100
net income		90	900	900
add depreciation		900	0	0
cash from operations		990	900	900
NOW COMPANY		Year 1	Year 2	Year 3
Income statement
total revenue		1500	1500	1500
total cash expenditure		500	500	500
less depreciation =900/3		300	300	300
operating profit		700	700	700
tax-10%		70	70	70
net income		630	630	630
add depreciation		300	300	300
cash from operations		930	930	930
Year	Cap Company net income	Now company net income	Higher Net income
1	990	930	CAP company
2	900	930	Now company
3	900	930	Now company