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I’d like clarification on the use of FCFF in the Chrysos Co question. Why are we subtracting depreciation and in appendix 3, estimating the value of mining and shipping business, why isn’t depreciation on the new investment of $1200 included?
Depreciation is subtracted in arriving at the cash flow because of the following line in the question “The annual reinvestment needed to keep operations at their current levels is equivalent to the tax
allowable depreciation.”I understand that, as per FCFF we are supposed to add depreciation. Adding depreciation and subtracting it (for the stated purpose) would cancel off each other but in the case of this question we are only subtracting. Why? and why aren’t we including depreciation on the new investment?
1. We always take the profit before depreciation because depreciation is not a cash flow.
An amount equal to the depreciation is then subtracted because of the statement from the question that I quoted in my previous reply, and the investment needed is a cash outflow.2. Appendix 3 is for when the smaller machinery parts is unbundled. Again we take the profit before depreciation. The amount deducted for the investment needed is equal to the depreciation on the assets remaining. The assets remaining are 80% x 7500 = 6,000 for the land and buildings, and 80% x 5,400 = 4320 plus the new equipment for the mining and shipping of 1200.
4320 + 1200 =5520.I finally get it! For the 1st one, depreciation was never deducted, so we don’t need to add it back and the 2nd one, I just needed to pay more attention. Thank you so much for the help!
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