- CFA Exams
- CFA Level I Exam
- Study Session 7. Financial Reporting and Analysis (2)
- Reading 23. Understanding Cash Flow Statements
- Subject 3. Cash Flow Statement Analysis
CFA Practice Question
Assume a 30% tax rate. If the interest expense amount increases by $100, this period's FCFF will ______ and FCFE will ______.
A. increase by $30; increase by $30
B. decrease by $30; decrease by $30
C. not change; decrease by $70
Explanation: Net income will decrease by $70 (30% tax shield). As FCFF = NI + NCC + Int (1 - Tax rate) - FCInv - WCInv, it will not change. However, as FCFE = FCFF + Net borrowing - Int ( 1- Tax rate), FCFE will decrease by $70.
User Contributed Comments 6
| User | Comment |
|---|---|
| haosheng | Won't change the FCFF at all? I thought it is part of Int(1-T). |
| Tannenbaum | FCFF= NI + NC + Int*(1-T) - deltaWC - Inv NI will be decreased by Int(1-t) and Int*(1-T) will be increased by the same amount. |
| atoy | This is a tricky one only saw it after reading the explanation |
| gill15 | I didnt even do this section but even if I did I would've been tricked on this one. |
| jjhigdon | FCFF is cash available to equity AND bondholders, so it is not affacted by change in interest expense. FCFE is cash available to just equity holders, so it is reduced by additional amount owed to debt (after tax change in interest expense). |
| birdperson | @jjhigdon -- that actually makes sense... thanks |