Non-Cash Expenses

What to beware of in financial statements

What are Non-Cash Expenses?

Non-cash expenses appear on an income statement because accounting principles require them to be recorded despite not actually being paid for with cash. The most common example of a non-cash expense is depreciation, where the cost of an asset is spread out over time even though the cash expense occurred all at once.

non cash expenses

How Non-Cash Expenses Work

Here is an example of how a non-cash expense occurs:

On July 1, 2017, a company purchases a computer for $2,500 with cash. The computer is estimated to have a useful life of five years, so an annual depreciation expense of $500 is created for the next five years.
In 2017, the company will have a depreciation expense of $500 on the income statement, and an investment of $2,500 on the cash flow statement.
In 2018, the company will have a depreciation expense of $500 on the income statement, and no investment recorded on the cash flow statement.
This continues until 2022 when the depreciation from this computer is now $0 because it is fully depreciated.

As you can see, the $500 depreciation expense is actually a non-cash item, and the capital cost is recorded only once on the cash flow statement.

List of the Most Common Non-Cash Expenses

There are many types to watch out for, but the most common examples include:

Depreciation
Amortization
Stock-based compensation
Unrealized gains
Unrealized losses
Deferred income taxes
Goodwill impairments
Asset write-downs
Provisions and contingencies for future losses

Why Non-Cash Charges Need to be Adjusted for in Financial Analysis

When performing a financial valuation of a company, an analyst typically performs a Discounted Cash Flow (DCF) analysis based on its Free Cash Flow (FCF). FCF is used because it demonstrates the true economic viability of a company.

Since analysts can’t use net income in a DCF model, they need to adjust net income for all the non-cash charges (and make other adjustments) to arrive at free cash flow.

Below is an example of how an analyst would make the above adjustments when building a financial model.

Source: CFI financial modeling courses.

Additional resources

Thank you for reading this guide to non-cash expenses and charges that need to be adjusted in financial modeling and valuation. CFI is the official provider of the global Financial Modeling & Valuation Analyst (FMVA)™ certification program, designed to help anyone become a world-class financial analyst. To keep advancing your career, the additional CFI resources below will be useful:

Additional Resources

CFI is a global provider of financial modeling courses and of the FMVA Certification. CFI’s mission is to help all professionals improve their technical skills. If you are a student or looking for a career change, the CFI website has many free resources to help you jumpstart your Career in Finance. If you are seeking to improve your technical skills, check out some of our most popular courses. Below are some additional resources for you to further explore:

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The Financial Modeling Certification

Below is a break down of subject weightings in the FMVA® financial analyst program. As you can see there is a heavy focus on financial modeling, finance, Excel, business valuation, budgeting/forecasting, PowerPoint presentations, accounting and business strategy.

A well rounded financial analyst possesses all of the above skills!

Additional Questions & Answers

CFI is the global institution behind the financial modeling and valuation analyst FMVA® Designation. CFI is on a mission to enable anyone to be a great financial analyst and have a great career path. In order to help you advance your career, CFI has compiled many resources to assist you along the path.

In order to become a great financial analyst, here are some more questions and answers for you to discover:

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