FNCE10002 Lecture Notes - Lecture 9: Agency Cost, Double Taxation, Cash Flow
19 Jun 2018
School
Department
Course
Professor
Principles of Finance
Lecture 9- Payout Policy and Taxes
Introduction to Payout Policy
Free cash flow (FCF) is the cash that a firm can generate after spending the money to maintain or expand
its asset base.
FCF is operating cash flows minus capital expenditures of the firm
FCF can be used for three main valid purposes:
Interest payments and principal repayment on debt
Retained by the firm to be either used to invest in new +NPV projects (thus increasing the value of shares
in the firm) or to increase cash reserves
Payout either through dividend payments or share repurchases/buybacks to shareholders (this will be the
focus of this lecture)
The choice between retention of cash, payout of dividends and share repurchase will be affected by
market imperfections (or frictions) with the most important of these factors being “taxes”
The reason is that the firm will respond to what the market wants (shareholders)
In order to fully understand the reasons and motivation for certain policies, we need to spend some time
on understanding tax as it operates in Australia.
Overview of Corporate and Personal Taxes
Corporate (or company) taxes in Australia are flat and currently at 30%. Denoted as
Personal taxes are progressive - Tax rates rise with the taxable income. Denoted as
Taxable income at the personal level is defined as the total assessed income minus allowable tax
deductions
Assessable income includes salary and wages, investment income, realized capital gains, etc
Deductions include those related to work, managing investments, etc
Tax schedule relevant for the 2016-17 tax year
•
Capital Gains Taxes
For individuals, a capital gains tax (CGT) is the tax that is paid on the net capital gains realized in a
particular tax year
A net capital gain is defined as the total capital gain realized during the tax year minus the total capital loss
realized in that year and any unapplied net capital losses from earlier years
- Capital losses can be carried forward to future years and deducted against future, realized capital
gains
- No time restriction on how long one can carry forward a net capital loss
Three methods for computing capital gains taxes
- The “other” method
- The indexation method
- The discount method
find more resources at oneclass.com
find more resources at oneclass.com
Capital Gains Taxes- Key Dates
September 20, 1985
-Capital gains tax introduced
-Assets purchased before this date are called pre-CGT assets and exempt from capital gains taxes
-Indexation method applied - Cost of assets held more than 12 months are adjusted by the
consumer price index (CPI)
September 21, 1999
-CPI frozen at 68.7 which was the value on September 30, 1999 and the discount method introduced
-Discount is 50% for individuals and trusts
ď‚®33.33% for complying superannuation entities and eligible life insurance companies
-Choice between using indexation method or discount method is allowed for assets purchased
before this date
The Indexation Method
For Capital Gain Taxes events before September 21, 1999, the indexation factor used is:
For CGT events on or after September 21, 1999, the indexation factor used is:
Indexation factors are rounded to 3 decimal places.
The higher the indexation factor (that is, the higher the inflation adjustment) the higher the cost base and
the lower the net capital gain.
The choice of method used depends on when you purchased the asset. Before September 21, 1999 here is a
choice between methods, after this date, the discount method must be used.
Consumer Price Index
Summary of CGT methods
find more resources at oneclass.com
find more resources at oneclass.com
Document Summary
Free cash flow (fcf) is the cash that a firm can generate after spending the money to maintain or expand its asset base. Fcf is operating cash flows minus capital expenditures of the firm. Fcf can be used for three main valid purposes: Retained by the firm to be either used to invest in new +npv projects (thus increasing the value of shares in the firm) or to increase cash reserves. Payout either through dividend payments or share repurchases/buybacks to shareholders (this will be the focus of this lecture) The choice between retention of cash, payout of dividends and share repurchase will be affected by market imperfections (or frictions) with the most important of these factors being taxes . The reason is that the firm will respond to what the market wants (shareholders) In order to fully understand the reasons and motivation for certain policies, we need to spend some time on understanding tax as it operates in australia.
