if both depreciation methods lead to the same CFO, dose it because defered tax in CFO make them the same. because difference depreciation will lead to different tax, so net income got decreased by different amount, even you add those depreciation value back in CFO, they are still not the same due to different tax. so how finally, the CFO is the sam ein both method? Thanks.
I don’t think it is correct to say that the method of depreciation has no bearing on CFO. I think it affects CFO through taxes. Let’s say instead of taking a $100 depreciation charge you take a $1000 depreciation charge by compressing the economic life of a machine. Assume the tax rate is 50%. Accordingly, the $900 more in depreciation cuts net income by $450. It also cuts taxes by $450. Using the indirect method, you would start from a net income that is lower by $450 and add back a depreciation charge that is higher by $900. As a result, CFO is higher by $450. I think the CFO difference reflects the reality that you have more cash on your hands ($450 more) thanks to the lower tax bill for that year.
it said that different depreciation method dose not impact cash flow, here the cash flow is the net cash flow. is it? thanks. chebychev Wrote: ------------------------------------------------------- > I don’t think it is correct to say that the method > of depreciation has no bearing on CFO. I think it > affects CFO through taxes. > > Let’s say instead of taking a $100 depreciation > charge you take a $1000 depreciation charge by > compressing the economic life of a machine. > Assume the tax rate is 50%. Accordingly, the $900 > more in depreciation cuts net income by $450. It > also cuts taxes by $450. > > Using the indirect method, you would start from a > net income that is lower by $450 and add back a > depreciation charge that is higher by $900. As a > result, CFO is higher by $450. > > I think the CFO difference reflects the reality > that you have more cash on your hands ($450 more) > thanks to the lower tax bill for that year.
I think it is because you use different depreciation methods on your tax return and financial statements. So if you just change the depreciation method on your financial statement, it won’t affect cash flows, since the depreciation on your tax return hasn’t changed.
You might have overlooked what you were reading. When it comes to financial reporting purposes, either depreciation methods has no effect on reported cash flows, as depreciation is a noncash expense. For tax purposes though, the use of accelerated methods rather than the straight line method reduces taxes paid, increases CFO. Hope this helps.
^as above. Also, don’t get confused by the fact that depreciation is added to net income when using the indirect method of calcultaing CFO. Depreciation is already accounted for in net income, so, no matter what depreciation method you use, it balances out.
the thing is when depreciation is added back its not tax accounted