Tax consequences
There will be tax consequences that are specific to individual countries. As examples only: *Governments may want to prevent the shrinking of the business base of their economy, so they may tax withdrawals of capital. *Governments may want to stimulate the exploration for O&G. They may allow companies to "flow-through" the exploration expense to the shareholders so it can be redeployed. *REITs may also flow through the depreciation expense they do not need to shareholders. It may be decades before the property is sold and taxes payable. It is better to give the excess cash and the tax write-off to the shareholders. *Since the ROC shrinks the business and represents a return of the investors' own money, the ROC payment received may not be taxed as income. Instead it may reduce the cost base of the asset. This results in higher capital gains when the asset is sold, but defers tax.Example
You start a delivery business with one employee and one contract. Your initial investment of $12,000 goes to buy a vehicle. *The contract is for four years and pays you $7,000 each year. *The employee is paid $2,000 each year. *Gas to run the vehicle will cost $1,000 each year. *With perfect foresight the accountant knows the vehicle will die at the end of the four years, so he expenses it at $3,000 each year. At the end of each year: *Cash flow will be $4,000 (= 7,000-2,000-1,000). It is paid out to you. *Net income will be $1,000 (= 7,000-2,000-1,000-3,000). *The ROC is $3,000 (= cash received - net income) (= 4,000-1,000). At the end of four years: *You have received cash payments of $16,000 (= 4,000*4). *Total ROC payments equal $12,000 (= 3,000*4). *Total income payments equal $4,000 (= 1,000*4). *Your initial investment has been 100% recovered by the ROC (= 12,000-12,000). *Your vehicle is now dead and worth nothing.Conclusions
*Cash flows do not measure income. They measure only cash flows. *Depreciation, depletion and amortization cannot be ignored as "non-cash expenses". They are valid allocations of a one-time cash flow over the time period that the asset helps generate revenues. *In the process of normalizing rates of return between different investment opportunities, ROC should not be included in the consideration of 'income' or 'dividends'.Time value of money
Some people dismiss ROC (treating it as income) with the argument that the full cash is received and reinvested (by the business or by the shareholder receiving it). It thereby generates more income and compounds. Therefore, ROC is not a "real" expense. There are several problems with this argument. *No one is arguing that the income earned on the full cash flow reinvested is not additional real income. *If the original asset purchase had not been made, its cash cost would have been invested and earning returns in that same way. *If you consider that depreciation is an allocation of the original cost of the asset, then you must agree thatSee also
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