Why is it important to account for depreciation in cash flow estimation?

Accounting for depreciation in cash flow estimation is crucial primarily because it reduces tax liability. Depreciation is a non-cash expense, which means that while it is deducted from revenue for the purposes of income tax calculations, it does not involve an actual cash outflow. This deduction lowers the taxable income, thereby reducing the amount of taxes a company has to pay. Consequently, the cash flow available to the business is higher because less cash is spent on taxes.

Furthermore, while depreciation does not directly increase cash flow itself, it positively influences cash flow by giving businesses greater tax savings, which can be reinvested or used for other purposes. It also provides a clearer picture of a company’s operational efficiency and asset management when analyzing financial statements.

In summary, the significance of accounting for depreciation lies in its ability to create tax benefits, impacting overall cash flow positively.