Why does a debt write down decrease cash?
Hi,
I get what it looks like on the 3 Statments:
IS: Debt Wite Down (new item appears – under Operating income) + 100 --> Net Income +60 --> CF: Debt Write Down (new Item appears under Operating Activities) -100 --> CF from operation +60 (Net Income) -100 = -40 --> Change in Cash -40 --> BS: Cash -40 --> LT Debt -100 --> Retained Earnings +60
But why will my cash balance decreae if my LT Debt I owe to my creditors is written down?
Thx
Taxes paid is assumed 40% in your example. Debt acts as a tax shield. So cash is decreased 40.
Lets say you have a beginning debt balance of 200; there are 0 issuance of new debt, 0 repayments, and (100) in write down. Your ending debt balance will be 100 less or 100. Since your liability went down 100, cash also goes down 100, and then this use of cash 100 nets with the positive net income of +60 to give you -40 which flows down to CF and up to (40) for cash in BS.
I think what you said is right, but it is much easier to start with the IS and work your way to the BS, then the CFS. "Since your liability went down 100, cash also goes down 100" isn't really accurate, unless you are specifically referencing the mechanics of the CFS.
From a theoretical perspective, you are recognizing an additional 100 in non-cash income, which results in an increase in cash taxes by 40. For cash purposes, you always want to minimize taxable income.
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