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Question:
How does $10 of Depreciation affect the three financial statements?
Answer:
Income Statement: Operating Income would decrease by $10. If we assume a 40% tax rate, Net Income would decrease by $6.
Cash Flow Statement: Net Income is down by $6, but the $10 of Depreciation gets added back because it is a non-cash expense. So overall, the Cash Flow from Operations (CFO) is up by $4. There are no changes to Cash Flow from Financing or Investing activities, so overall the net change in Cash is positive $4.
Balance Sheet: Plants, Property & Equipment (PP&E) decreases by $10 on the Assets side because that's what is being depreciated, but Cash is up by $4 from the Cash Flow Statement. So Assets are down by $6. On the Liabilities & Shareholder's Equity side, Net Income flows into Retained Earnings which is down by $6, so both sides balance.
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