1. Which of the following statements is CORRECT?
a. Interest paid by a corporation is a tax deduction for the paying corporation, but dividends paid are not deductible. This treatment, other things held constant, tends to discourage the use of debt financing by corporations.
b. The current cash flow from existing assets is highly relevant to investors. However, since the value of the firm depends primarily upon its growth opportunities, accounting net income projections from those opportunities are the only relevant future flows with which investors are concerned.
c. Two metrics that are used to measure a company's financial performance are net income and free cash flow. Accountants tend to emphasize net income as calculated in accordance with generally accepted accounting principles. Finance people generally put at least as much weight on free cash flows as they do on net income.
d. To estimate the net cash provided by operations, depreciation must be subtracted from net income because it is a non-cash charge that has been added to revenue.
e. If Congress changed depreciation allowances so that companies had to report higher depreciation levels for tax purposes in 2015, this would lower their free cash flows for 2015.
2. Which of the following statements is most correct?
a. Because taxes on long-term capital gains are not paid until the gain is realized, investors must pay the top individual tax rate on that gain.
b. 70% of the interest received by corporations is excluded from taxable income.
c. 70% of the dividends received by corporations is excluded from taxable income.
d. The corporate tax system favors equity financing, as dividends paid are deductible from corporate taxes.
e. Retained earnings, as reported on the balance sheet, represents the amount of cash a company has available to pay out as dividends to shareholders.