In capital planning, how does capex timing and depreciation affect cash flows?

• A. Capex timing and depreciation do not affect cash flows
• B. Capex timing affects cash flows but depreciation does not
• C. Capex timing affects cash flows and depreciation affects accounting value but not cash flow
• D. Capex timing and depreciation both affect cash flows; capex is capitalized and depreciated, affecting taxes and net cash flow

Answer: (D)

Capex timing and depreciation influence a project’s cash flows in two fundamental ways. The timing of capital expenditures matters because the actual cash outlay occurs when you buy the asset, and when you spend the money affects the project’s net cash flow at different points in time. This timing shifts the project’s cash flow profile, influencing the value of the project even if the total cost over the life is the same.

Depreciation, on the other hand, is a non-cash expense that reduces taxable income, creating a tax shield. That tax savings reduces cash taxes paid in each period, which increases after-tax cash flow. Even though depreciation doesn’t involve an immediate cash spend, it changes the amount of cash that stays in the business by lowering taxes.

So, both elements matter for cash flows: capex timing directly changes when cash leaves (and when the project can fund other opportunities), while depreciation changes the after-tax cash flow through tax shields. The option that captures that capex is capitalized and depreciated, affecting taxes and net cash flow, is the best fit. The others ignore either the cash timing impact or the tax-shield effect of depreciation.