When evaluating projects, we're only concerned with the relevant incremental after-tax cash...

Question:

When evaluating projects, we're only concerned with the relevant incremental after-tax cash flows. Therefore, because depreciation is a noncash expense, we should ignore its effects when evaluating projects?.

Critically evaluate this statement

Depreciation Expense:

Depreciation expense represents the usage of fixed capital assets over time. Since fixed assets provide value for more than one year, the expense for that year is handled as depreciation.

Answer and Explanation:

Yes, we should ignore the effects of depreciation on cash flow on short-term projects. This is why depreciation is added back to net income in the calculation of free cash flow. However, over the long-term the company should account for the long-term costs associated with the revenues generated from the project. These long-term costs come from capitalized assets that are depreciated rather than expensed over time.


Learn more about this topic:

Discounted Cash Flow Analysis
Discounted Cash Flow Analysis

from Financial Accounting: Tutoring Solution

Chapter 4 / Lesson 15
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