How does a $10 increase in depreciation flow through the three financial statements?
A core FP&A interview question — asked in analyst and associate interviews across IB, PE, and the Big 4.
THE SHORT ANSWER
Depreciation is a non-cash expense. On the income statement, it reduces operating income and net income by $10, assuming a 30% tax rate, net income decreases by $7. On the cash flow statement, net income is down $7, but we add back the $10 depreciation, so operating cash flow increases by $3. No impact on investing or financing cash flow, so net cash increases by $3. On the balance sheet, cash is up $3, PP&E is down $10 (accumulated depreciation), so total assets decrease by $7. Equity decreases by $7 due to lower retained earnings, balancing.
WHAT INTERVIEWERS LISTEN FOR
- ✓Income statement: EBIT and net income decrease by $10 and $7 (after tax).
- ✓Cash flow statement: operating cash flow increases by $3 (add back depreciation).
- ✓Balance sheet: cash +$3, PP&E -$10, equity -$7.
COMMON MISTAKES
- ✗Saying net income decreases by $10 (ignoring tax).
- ✗Forgetting to add back depreciation on CFS.
- ✗Claiming no impact on cash flow.
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