How would you forecast depreciation and amortization in a model that includes a capital expenditure plan?

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Multiple Choice

How would you forecast depreciation and amortization in a model that includes a capital expenditure plan?

Explanation:
Forecasting depreciation and amortization effectively comes from building a fixed asset schedule that tracks how assets are acquired, aged, and retired. Start by listing asset classes, their cost (depreciable bases), and their useful lives, choosing a depreciation method (typically straight-line). Each year add new capital expenditures to the asset base, then compute annual depreciation for all assets still in use based on their remaining life and the chosen method. This keeps the asset balances on the balance sheet accurate and shows depreciation expense on the income statement. Because depreciation is a non-cash charge, it reduces net income but does not consume cash. In the cash flow statement, you add depreciation back to net income and show capex as a cash outflow. Linking the depreciation expense to the income statement and the accumulated depreciation (or net PP&E) to the balance sheet ensures consistency across statements, and you’ll see how capex inflows drive future depreciation in subsequent years. If you also have intangible assets, amortization follows the same idea: add acquisitions to the asset base and amortize over their useful lives. Why this approach fits best: it reflects how real assets are acquired and used over time, produces depreciation that scales with the asset base, and keeps P&L and balance sheet in sync with the capex plan. Using a fixed percentage of revenue, treating D&A as a cash outflow, or assuming it’s constant would ignore the timing and magnitude of asset purchases and aging, leading to misstatement on both the income statement and the balance sheet.

Forecasting depreciation and amortization effectively comes from building a fixed asset schedule that tracks how assets are acquired, aged, and retired. Start by listing asset classes, their cost (depreciable bases), and their useful lives, choosing a depreciation method (typically straight-line). Each year add new capital expenditures to the asset base, then compute annual depreciation for all assets still in use based on their remaining life and the chosen method. This keeps the asset balances on the balance sheet accurate and shows depreciation expense on the income statement.

Because depreciation is a non-cash charge, it reduces net income but does not consume cash. In the cash flow statement, you add depreciation back to net income and show capex as a cash outflow. Linking the depreciation expense to the income statement and the accumulated depreciation (or net PP&E) to the balance sheet ensures consistency across statements, and you’ll see how capex inflows drive future depreciation in subsequent years. If you also have intangible assets, amortization follows the same idea: add acquisitions to the asset base and amortize over their useful lives.

Why this approach fits best: it reflects how real assets are acquired and used over time, produces depreciation that scales with the asset base, and keeps P&L and balance sheet in sync with the capex plan. Using a fixed percentage of revenue, treating D&A as a cash outflow, or assuming it’s constant would ignore the timing and magnitude of asset purchases and aging, leading to misstatement on both the income statement and the balance sheet.

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