First Year: Let’s assume that the company’s fiscal year ends Dec. 31. The relevance of the purchase date is that we will assume no depreciation the first year. Income Statement: A purchase of equipment is considered a capital expenditure which does not impact earnings. Further, since we are assuming no depreciation, there is no impact to net income, thus no impact to the income statement. Cash Flow Statement: No change to net income so no change to cash flow from operations. However we’ve got a $100 increase in capex so there is a $100 use of cash in cash flow from investing activities. No change in cash flow from financing (since this is a cash purchase) so the net effect is a use of cash of $100. Balance Sheet: Cash (asset) down $100 and PP&E (asset) up $100 so no net change to the left side of the balance sheet and no change to the right side. We are balanced.
Second Year: Here let’s assume straightline depreciation over 5 years and a 40% tax rate. Income Statement: Just like the previous question: $20 of depreciation, which results in a $12 reduction to net income. Cash Flow Statement: Net income down $12 and depreciation up $20. No change to cash flow from investing or financing activities. Net effect is cash up $8. Balance Sheet: Cash (asset) up $8 and PP&E (asset) down $20 so left side of balance sheet doen $12. Retained earnings (shareholders’ equity) down $12 and again, we are balanced.