Can someone explain how a gain or loss on a sale of an asset is a non cash charge? I understand how a mark to market gain or loss would be a non cash charge, but when you sell an asset there is an associated inflow of cash, so shouldn’t this be considered in the calculation of FCFE/FCFF?
I should add that I have the same question for the add back of bond discounts and premiums.
The sales price is cash, but the gain or loss isn’t; it’s the difference between the selling price and the book value of the asset.
As for the question on bond premia and discounts: do you mean the amortization of bond premia and discounts? The amortization isn’t a cash flow; the cash flows are the cash paid to purchase the bond, the coupon payments, and the par value repaid at maturity.
Ok I’m still having trouble wrapping my head around this.
If I sell an asset for $10 when it’s BV was $15, I’d have a loss of $5 but the cash inflow was $10. Shouldn’t this $10 be included in FCF? Since the $10 wouldn’t be part of NI, I don’t understand how that cash flow is accounted for. If I knew how it was it would make sense to me that the $5 loss is added back.
It is included, but the profit/loss isn’t.
All cash transactions are part of the CF statement. The loss from sale is recognized on the income statement, assuming it was held for sale, or part of operating activity.
Even if it weren’t held for sale or part of operating activity, the gain/loss would appear on the income statement, at the bottom, after income from continuing operations.
You’re absolutely correct: the $10 is included in FCF (as a reduction of CapEx). The $5 is a paper loss; it doesn’t represent a cash flow.
For non-recurring events, net of tax, sure.
Ah ok.
If I have this correct, which I think I do now…
FCFE = NI + NCC - WCinv - FCinv + Net borrowings
The $5 loss would be added back in NCC to cancel out the -$5 effect that the loss had on NI, and then the $10 cash inflow from the sale would be a -10 in FCinv (because it’s a reduction in assets of $10, so a negative capex) which would result in +5 for NCC and - -10 in FCinv for a total add back of $15. 5 of that to cancel the $5 loss in NI and $10 for the cash inflow.
I kept thinking that since the sale of assets wouldn’t show up in NI that it wasn’t being accounted for, but I forgot about FCinv.
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You got it!