DCF Taxes
quick question: when I do DCF and trying to figure out FCF should I go with taxes that were actually paid or taxes that should have been paid for each corresponding period in the past?
Thanks a lot!
yes
yes as in "yes, you should go with taxes that were actually paid in cash" or "yes you should do taxes that they were supposed to pay"?
For the historical period you use taxes reported on the company's income statement. This corresponds to the company's effective tax rate (what they actually paid). For the projection period you use the company's marginal rate (what they should pay without deductions, credits, etc.)
sounds reasonable, though by looking at cash flow statement I figured that company didn't pay its "income statement taxes", they deferred some portion of it into the future. So the question is, should I still put taxes that they should have paid, or should I account for deferral and then make a corrresponding entry in my projection (i.e. year where they will have to pay those deferred taxes).
Thanks a lot
Effective tax rate should be used, with deductions/credits/incentives modelled in where possible. Statutory tax rate if you don't have the necessary information or you don't need to go into too much detail. Marginal tax rate has the potential to significantly overstate taxes in progressive corporate tax regimes.
Pretty sure you'd be double counting if you did that
It depends on what FCF metric you're using. UFCF should use hypothetical tax rates (not effective), but if you are projecting CFO and just taking out capex then using effective tax rates makes more sense.
For UFCF take EBIT and times it by the tax rate to get the tax expense. Notice it is the tax rate in % and this is important because if you only take the tax expense from the income statement it takes into account interest. For unlevered FCF we want to eliminate interest in our calculation so taking the tax rate is the correct method
After some research - I think you're right. Where I am and with the type of firm I deal with, effective tax rates are modelled, but best practice seems to be using the marginal rate.
Not that anyone ever believes the DCF, anyway...
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