bythegovernment.Inreturn,thegovernmentimposessugar
pricecontrols.Thefirmcancomparethevaluecreatedbythe
taxcreditwiththevaluelostbecauseofthepricecontrolsand
decide whether it should fight to preserve its tax credit.
REINVESTMENT NEEDS
Thecash flow to thefirmis computed after reinvestment.
Twocomponentsgointoestimatingreinvestment.Thefirstis
net capital expenditures, which is the difference between
capitalexpendituresanddepreciation.Theotherisinvestment
in working capital.
Net Capital Expenditures
Inestimating netcapitalexpenditures, wegenerally deduct
depreciationfromcapitalexpenditures.Therationaleisthat
thepositivecash flowsfromdepreciation payforatleasta
portionofcapitalexpendituresanditisonlytheexcessthat
representsadrainonthefirm’scashflows.Whileinformation
on capital spending and depreciation is usually easily
accessible in most financial statements, forecasting these
expenditurescanbedifficultforthreereasons.Thefirstisthat
firms often incur capital spending in chunks—a large
investmentinoneyearcanbefollowedbysmallinvestments
in subsequent years. The second is that the accounting
definition of capital spending does not incorporate those
capitalexpensesthataretreatedasoperatingexpensessuchas
R&Dexpenses.Thethirdisthatacquisitionsarenotclassified
byaccountantsascapitalexpenditures.Forfirmsthatgrow
primarily through acquisition, this will result in an
understatement of the net capital expenditures.