Question

Which one of the following will increase the operating cash flow as computed using the tax shield approach? Multiple Choice Decrease in sales Decrease in fixed costs Increase in the tax rate Decrease in depreciation

Answer 1

Answer: Decrease in fixed costs

Explanation:

When using the tax-shield approach, the relevant method of calculating operating cashflow is;

= (Sales - Cash Costs) * (1 - tax rate ) + (Depreciation * tax)

Looking at the formula it can be inferred that if fixed costs (part of cash costs) were to decrease, the cash from sales would be higher and would therefore result in an increased operating cashflow for the company.