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Chapter 4

Cash Flow
and
Financial Planning

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All rights reserved.

Depreciation
Depreciation is the allocation of the historic cost
of an asset over time
Non-cash expense
Use MACRS for tax purposes
Can use other methods for financial reporting
What are other depreciation methods?

Shorter depreciable life preferred to longer


lifewhy?

Depreciable Value of Asset


Depreciable Value = Cost + Delivery + Installation
Delivery and installation can be significant amount
Want to be able to depreciate as much as possible

Table 4.1 First Four Property


Classes under MACRS

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Table 4.2 Rounded Depreciation Percentages by


Recovery Year Using MACRS for First Four
Property Classes

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Depreciation: An Example
Baker Corporation acquired, for an installed cost of $40,000, a
machine having a recovery period of 5 years. Using the applicable
MACRS rates, the depreciation expense each year is as follows:

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Depreciation Example
Your company purchases a new piece of
equipment for $20,000. Delivery costs
$2,000 and installation costs $3,000.
The piece of equipment has a 5-year
depreciable live.
Calculate the annual depreciation expense
using the depreciation table.

Section 179 Deduction


Section 179 of the IRS tax code allows businesses to deduct
the full purchase price of qualifying equipment and/or
software purchased or financed during the tax year.
That means that if you buy (or lease) a piece of qualifying
equipment, you can deduct the FULL PURCHASE PRICE
from your gross income.
It's an incentive created by the U.S. government to encourage
businesses to buy equipment and invest in themselves.

Section 179 Deduction Limits


Limit of $139,000 in equipment, software, and
vehicles WRITTEN OFF for 2012
Limit of $560,000 in equipment purchases for
2012
The deduction begins to phase out dollar-fordollar after $560,000 is spent by a given
business, so this makes it a true small and
medium-sized business deduction.

Cash Flow The Accounting


Definition

Depreciation or other non-cash expenses


Why do we add depreciation back to NPAT?

Cash Flow The Finance


Definition

How is this different from the accounting definition?

Cash Flow Example


A company has $100,000 of earnings before
interest and taxes. Interest expense is
$10,000 and taxes are 34%. The company
also has depreciation expense of $12,000.
What is the cash flow for this company using
the accounting definition and the finance
definition?

Table 4.3
Inflows and Outflows of Cash

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The Financial Planning Process


The financial planning process begins with long-term,
or strategic, financial plans that in turn guide the
formulation of short-term, or operating, plans and
budgets.
Two key aspects of financial planning are cash planning
and profit planning.
Cash planning involves the preparation of the firms cash
budget.
Profit planning involves preparation of pro forma statements.

2012 Pearson Prentice Hall. All rights reserved.

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