FCFF/FCFE: simple & tricky

CFA Level II
#1

worth sharing … What is the impact on FCFF and FCFE of a $100 increase in each of the following: 1. Depreciation FCFF FCFE a. +100 +100 b. +60 +60 c. +40 +40 d. 0 0 2. Interest expense a. FCFF FCFE a. +60 0 b. 0 -60 c. -60 0 d 0 0 These are simple but tricky… Answers???

#2

A A

#3

A A - Interest is not added back to FCFE calculations…

#4

A B

#5

Right A&A, assuming 40% tax, but you could have deferred it from the answers as well…

#6

Are you thinking net borrowing Niblita75?

#7

If you increase depreciation, wouldn’t that lower NI but raise NCC cancelling each other out, except you get a tax benefit for depreciation, so it would be a 40 dollar increase in FCFE assuming 40% tax rate?

#8

Nope, I forgot about that. But how do you know that he didn’t retire $1,000 worth of principal?

#9

CB

#10

AA

#11

I guess it depends if you assume you start with finished FCFF&FCFE and add the additional info, or start all over again with the additional info of depr. and int. I just assume he didn’t retire debt coz it’s not stated.

#12

sorry folks, the assumption is a 40% tax rate please

#13

D NI includes a reduction for depreciation. So any increase would be cancelled out for both FCFF and FCFE B Again, interest expense is again added back in the case of FCFF, so any increase would be cancelled. For FCFE, a further interest expense has incurred and has to be subtracted further from NI, hence the decrease. ??

#14

Answers?

#15

WTF? Tax rate 40% I’m assuming. Also, how do we know what we’re starting with FCFF that’s already added I(1-t) and then we have to subtract it for FCFE, OR, if we haven’t included it in the initial calc. Where’d you get this BS vague question from, bruv>?

#16

oops… forgot the taxes…so its C B

#17

hk Wrote: ------------------------------------------------------- > I guess it depends if you assume you start with > finished FCFF&FCFE and add the additional info, or > start all over again with the additional info of > depr. and int. > > I just assume he didn’t retire debt coz it’s not > stated. Depreciation: No difference. If you start with “finished” FCF_, then you need to add $40 to FCF - the tax saved is the only effect on cash of increased depr (again, assuming 40% tax rate). If you start all over again, you will end up with the same number. so that’s C Interest expense: For FCFF, as you add the interest back, the only change is the effect of the tax shield, which is +$40. For FCFE, you deduct the net interest, which is -$60. So E) +40, -60.

#18

quantforCFA Wrote: ------------------------------------------------------- > oops… > > forgot the taxes…so its > > C > B I agree with that answer, I kept thinking about just adding the full non cash charge.

#19

CB, assuming 40% tax

#20

To think way too much into it, could the increase in interest expense be caused by an increase in borrowings? I’d love to see the answers…