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13 Cards in this Set
- Front
- Back
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MAIN CONCEPT OF CAPITAL BUDGETING
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WHICH PROJECT TO INVEST IN
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CASH FLOW EFFECTS
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* DIRECT EFFECT - RECEIPTS AND PAYMENTS OF CASH WHICH HAS AN IMMEDIATE EFFECT ON THE AMOUNT OF CASH AVAILABLE
INDIRECT EFFECT - EX. TAX EFFECT FROM DEPRECIATION. NET EFFECT - DIRECT + INDIRECT EFFECT |
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STAGES OF CASH FLOWS
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INCEPTION OF PROJECT
OPERATIONS DISPOSAL |
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INCEPTION OF THE PROJECT
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Invoice cost + shipping + installation------- xxxxxx
+/- change in WC --- xxxxxx - Cash proceeds on sale of old----------- xxxxxx ------ NET CASH OUTFLOW FOR NEW PPE-------------------XXXXXX |
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OPERATIONS STAGE
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These are Cash Inflows
Cash Flows on a reg, Basis or ANNUITY TAX SHIELDS out of Depreciation |
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DISPOSAL OF THE PROJECT at the end of the period
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Proceeds from Sale
Taxes If sold at a Loss - Cash Savings If sold at a gain - Cash Out (tax will be paid for the Gain) |
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DIRECT AND INDIRECT EFFECTS WHEN ASSETS ARE DISPOSED AT THE END OF THE PROJECT'S LIFE
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Indirect effect if there are changes to working capita once the asset is disposed (ex. dismissal of employees)
* If the asset is sold : direct effect for cash inflow created * indirect effect for for taxes due ( if it is a gain) or taxes saved ( in case of a loss) *If the asset is scrapped or donated there "may" be tax savings if the TAX BASIS IS GREATER THAN ZERO (i.e. not fully depreciated asset) |
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CALCULATE PRE TAX CASH FLOWS
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Investment Value is often based on the PRESENT VALUE that investors are expecting to receive in the future
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CALCULATE AFTER TAX CASH FLOWS
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SHORT CUT
PRE TAX CASH FLOW X (1-TAX RATE) |
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FACTORS AFFECTING INCOME TAXES, CASH FLOWS AND ASSET DISPOSITION
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ABANDONMENT OF ASSETS
SALE OF ASSETS TRADE IN OF ASSETS |
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ASSET ABANDONMENT (EFFECT
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If asset is abandoned:
Net salvage value is treated as "REDUCTION" of the initial investment in the "NEW" asset BOOK VALUE OF ABANDONED ASSET- "SUNK" Cost. It is "NOT RELEVANT" when making a decision REMAINING BOOK VALUE (for tax purposes) is deductible as a "TAX LOSS" w/c reduces TAX Liability in the yr. of abandonment. This tax liability is a REDUCTION of the new asset's initial investment |
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SALE OF ASSETS (effects)
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If new asset acquisition requires the SALE OF OLD ASSETS:
*SUBSEQUENT GAIN OR LOSS has NO EFFECT on the capital expenditure decision. REASON: because the BV of OLD ASSET is a SUNK cost Cash received from sale of old asset REDUCES the NEW Investment's value If there is a gain or loss, consider the tax effects: Gain - the AMOUNT OF INCOME TAX PAID on the gain should be deducted from the SELLING PRICE OF THE OLD ASSET (w/c increases the initial expenditure) If there is a LOSS, there will be a reduction on tad as a result of the loss. This is treated as a REDUCTION of the NEW investment |
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ASSET TRADE IN (EFFECTS)
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NO GAIN OR LOSS GENERALLY hence, NO TAX EFFECT
The effect is on LATER YEARS The traded in asset's book value becomes a portion of the depreciable basis of the NEW asset. RESULT: MORE depreciation in later years, MORE REDUCTION IN TAXES PAYABLE IN LATER YEARS. Therefore, the CASH OUTFLOWS in the later years will DECLINE |
