Development of assets capital expenditure, depreciation, and net written down values forecasts.

1. Financial Modeling Fundamentals:
5. Fixed Assets

2. Overview
01

3. OVERVIEW
The Apple financial model is now complete down to EBITDA in
the income statement and contains working capital
adjustments to allow for the cash flow impacts of debtors,
inventory, and creditors. It is now time to forecast the capital
expenditure, fixed assets, and depreciation of the business.
Capital expenditure, fixed assets, and depreciation exist due
to the accounting matching concept, which requires that
expenses are aligned with the revenues they derive when they
are reported in the income statement. Because some
expenses provide multiple-year benefits – such as the
purchase of a machine with a 5-year life span – these
expenses must be allocated across the periods in which they
provide benefit to avoid lumpy earnings on the income
statement.
Expenditure that is incurred to purchase assets that provide
multiple-year benefits is called capital expenditure and is allocated
across multiple income statement periods via depreciation. Any
undepreciated capital expenditure amounts are reported as fixed
assets in the non-current assets section of the balance sheet, at
what is referred to as their net written-down value – i.e. the value of
its initial capital expenditure written down by its accumulated
depreciation.
From a financial modeling perspective, the basic relationship
between capital expenditure, fixed assets, and depreciation can be
expressed as follows:
Opening Fixed Assets Balance + Capital Expenditure –
Depreciation = Closing Fixed Assets Balance

4. OVERVIEW
The following table shows this relationship for a single
asset costing $100 with a useful life of 5 years
purchased at the start of the 1st year:
In this example the straight-line deprecation method
has been used, which depreciates the cost of the asset
pro rata across the years of its useful life. Other more
complex depreciation methods include the declining
balance method and sum-of-the-year's digits method.
The modeling of these depreciation methods is outside
the scope of this exercise, but they all achieve the
same outcome of reducing the net written down value
(i.e. closing balance) of assets over their useful life.
Fixed Assets – Depreciation Schedule

5. OVERVIEW
In reality, asset modeling can become very complicated if
allowing for things such as asset revaluations, write-offs, and
sales. But in most financial models these are ignored, and the
above relationship is assumed to be sufficient for forecasting
fixed asset balances.
For completeness, it should be noted that there is a difference
between depreciation and amortization, even though they are
often grouped together in financial statements like those in
Apple's annual report. Put simply, tangible assets – such as
plant and equipment – are depreciated,
while intangible assets – such as patents and trademarks –
are amortized.
Intangible assets are distinguished from tangible assets primarily
because they are less likely to have value in an insolvency event,
and therefore help investors understand the risks associated with a
business.
The net written down value of Apple's fixed assets for the past two
financial years can be found within the non-current assets section
of its balance sheet on page 33 of its annual report. Based on notes
to the financial statements this includes Apple's tangible and
intangible assets.

6. OVERVIEW
Apple's closing Property, plant and
equipment, net for FY20 was $36,766m,
which was slightly lower than its FY19
closing balance of $37,378m, as shown
here:
This decrease in FY20 simplistically
implies that the depreciation of Apple's
fixed assets during FY20 was greater
than the capital expenditure it incurred
purchasing new and maintaining existing
assets.
Apple – Fixed Assets

7. OVERVIEW
Depreciation and amortization are not
explicitly broken out in Apple's income
statement, but have been added back
in the indirect cash flow statement on
page 35. This is because depreciation
and amortization are non-cash
expenses which have been included
in NPAT and must therefore be
removed when calculating cash flows,
as shown here:
Apple – Depreciation & Amortization

8. OVERVIEW
It is often very difficult to gain a clear
understanding of the exact capital
expenditure and depreciation amounts of a
business based only on the information
within its annual report, and Apple is no
exception.
Simplistically, an indication of Apple's capital
expenditure for FY20 can be calculated by
back-solving it from the movement in fixed
assets on the balance sheet and depreciation
and amortization add-back on the cash flow
statement, as follows:
Apple – Basic Capital Expenditure Calculation

9. OVERVIEW
Based on the decrease in Property, plant and
equipment, net during FY20 from $37,378m to
$36,766m and depreciation and amortization of
$11,056m, Apple's implied capital expenditure
for FY20 was $10,444m.
This analysis is logical, but does result in a
significantly higher capital expenditure number
than the $7,309m reported as Payments for
acquisition of property, plant and equipment in
the cash flow statement for FY20, as shown
here:
Apple – Cash Flow Statement PP&E Capital
Expenditure

10. OVERVIEW
Further complicating things, the notes to the financial
statements on page 37 of the annual report indicate
that “Depreciation and amortization expense on
property and equipment was $9.7 billion” in FY20,
which is different to the $11,056m added back in the
indirect cash flow statement.
There are many possible reasons for these
differences. For example, there may have been
revaluations of tangible or intangible assets reported
within property, plant and equipment which increased
the value of these assets without capital expenditure.
Some fixed assets may also have been included
within Apple's reported $42,522m of other non-current
assets. Assets may also have been sold during the
period or acquired by acquisitions not reported in
capital expenditure.
Apple – Depreciation & Amortization
When building a financial model, sufficient research needs to
be done with the available information to facilitate justifying
forecasts with regards to historical data. In this instance, the
historical data is unclear, so decisions must be made about
how to interpret the available annual report data as a basis for
forecasting.
Given that the FY20 depreciation and amortization add-back
amount of $11,056m was subtracted from cost of goods sold
when determining margin assumptions when forecasting cost
of goods sold, it is reasonable to use this figure as the FY20
fixed assets depreciation and amortization amount when
forecasting fixed assets.
And assuming that the fixed assets balance on the balance
sheet reflects all assets to which depreciation and amortization
relates, it is a reasonable simplifying assumption to use the
implied $10,444m capital expenditure number as a basis for
forecasting capital expenditure.

11. OVERVIEW
In the Apple financial model, activate the
opening balance sheet in position 1.b. of the
table of contents. Enter the FY20 closing
balance of $36,766m as the fixed assets
opening balance assumption into cell J12, as
shown here:
Fixed Assets – Opening Balance
Sheet

12. OVERVIEW
Note that while the opening
balance sheet automatically
balances via the retained profits
balancing item, the forecast
balance sheet disbalances
because it does not yet allow for
the inclusion of fixed assets in the
forecasts.
Activate the forecasts sheet in
position 1.c. of the table of
contents. The fixed assets forecast
assumptions are located in rows
23 – 24, as shown below:
Fixed Assets – Assumptions

13. OVERVIEW
Capital expenditure has been forecast to increase from
$10,444m in FY20 to $11,000m in FY21 and thereafter
increase by $100m per year, reflecting Apple's
investment in its growing services business lines.
Deprecation has been forecast as 95% of capital
expenditure in each year, which will result in forecast
fixed assets increasing over time by 5% of capital
expenditure.
In most financial models, depreciation would be
forecast using a depreciation method such as the
straight-line method, but a simplified approach has
been taken in this exercise to focus on the way in which
fixed assets flows through the financial model rather
than the complexities of depreciation forecasting.
Irrespective of the approach used to model depreciation
in a financial model, the key is ensuring that depreciation
is related to capital expenditure and fixed asset balances,
so that depreciation forecasts change when forecast
capital expenditure assumptions are changed.
Calculating forecast depreciation as a percentage of
forecast capital expenditure is simplistic, but viable when
modeling many steady state businesses, as their
depreciation will usually be a fairly consistent percentage
of their capital expenditure.
For FY21, these assumptions will result in Apple's
forecast fixed assets increasing by $550m from
$36,766m to $37,316m.
This is the net of an increase from capital expenditure of
$11,000m and decrease from depreciation of $10,450m.

14. OVERVIEW
Unlike revenues, expenses, debtors, and
creditors, which each impact only two of the
financial statements, fixed assets impact all
three financial statements.
Capital expenditure is reported as an investing
cash flow in the cash flow statement,
depreciation is reported as a non-cash expense
in the income statement, and the closing written
down value is reported on the balance sheet, as
shown below for Apple during FY21:
Note that when forecasting depreciation based
on an assumed percentage of capital
expenditure, the depreciation expense includes
both the depreciation of fixed assets purchased
during the period as well as the depreciation of
fixed assets on the balance sheet at the start of
the period.
Fixed Assets – Financial Statement Impacts (FY21)

15. OVERVIEW
This simplified approach prevents the need to
separately forecast the depreciation of capital
expenditure in each forecast period, which is
what makes modeling assets using methods
such as the straight-line depreciation method a
lot more complicated.
For example, if the $11,000m of capital
expenditure in FY21 related to a single asset
purchased at the beginning of the financial year
with a useful life of 5 years, and the straight-line
depreciation method is used to depreciation this
asset, $2,200m (i.e. $11,000m ÷ 5 years) of the
$10,450m depreciation expense in the income
statement would relate to this capital
expenditure. The remaining $8,250m (i.e.
$10,450m - $2,200m) would relate to fixed
assets purchased in prior years that are still
depreciating.
The reality is that Apple purchases a large
number of different assets at different times
throughout the year, so the financial modeling of
assets is necessarily always a simplification of
reality.
Fixed Assets – Financial Statement Impacts (FY21)

16. Capital Expenditure
02

17. CAPITAL
EXPENDITURE
Activate the cash flow statement (sheet in position 2.c. of the table of contents), then add capital expenditure by entering the following
heading into column B and data in columns J – N of the following row:
Row Heading Data
28 Capital Expenditure =-Forecasts!J23
This formula simply equals the capital expenditure in each period to the capital expenditure forecast assumptions, subtracting it so that
capital expenditure is reported on the cash flow statement as a cash outflow.
Ensure that capital expenditure is included in net cash flow from investing activities by entering the following formula in cell J30, then copy
and paste across the range J30:N30:
=J28

18. CAPITAL EXPENDITURE
After doing this, the net change in cash
held forecasts should start at $68,418m in
FY21 and increase to $74,497m in FY25,
as shown here:
Capital expenditure has now been
included in the cash flow statement, but
the balance sheet still does not balance
because the income statement does not
include depreciation and the balance
sheet does not include the written down
value of fixed assets.
Cash Flow Statement – Capital Expenditure

19. Depreciation
03

20. DEPRECIATION
To add depreciation to the income statement, activate the income statement (sheet in position 2.a. of the table of contents), then enter the
following heading into column B and data in columns J – N of the following row:
Row Heading Data
17 Depreciation & Amortization =-Forecasts!J23*Forecasts!J24
This formula calculates the depreciation in each period by multiplying the capital expenditure assumption by the depreciation percentage of
capital expenditure assumption, negating the result to ensure depreciation expense is negative on the income statement.
Ensure that this depreciation is included in EBIT by amending the formula in the EBIT calculation cell J18 with the following formula, then
copy and paste across the range J18:N18:
=SUM(J16:J17)

21. DEPRECIATION
After doing this, EBIT should equal
$68,961m in FY21 and increase to
$72,537m in FY25, as shown here:
Capital expenditure and
depreciation have now been
included in the cash flow statement
and income statement respectively,
but the balance sheet remains
unbalanced because it does not yet
contain the fixed assets closing
balances.
Income Statement – Depreciation & Amortization

22. WRITTEN DOWN VALUES
To add fixed assets written down values to the balance sheet, activate the balance sheet (in position 2.b. of the table of contents), then add
these closing balances by entering the following heading into column B and data in columns J – N of the following row:
Row Heading Data
20 Fixed Assets =IF(J$7=1,OBS!$J12,I20)-CFS!J28+IS!J17
This formula calculates the written down value of fixed assets in each period by taking the prior period closing balance, adding capital
expenditure, then subtracting depreciation and amortization. In the first forecast period, the prior fixed assets balance must be sourced
from the opening balance sheet, while in subsequent periods it is sourced from the prior cell in the balance sheet.
Capital expenditure must be subtracted because it is already a negative number in the cash flow statement, while depreciation is added
because it is negative in the income statement. These nuances with signage highlight the importance of using a consistent approach to
signage across the income statement and cash flow statement.
Ensure that the fixed assets closing balances are included in total assets by overwriting the zero value in the total non-current assets
calculation cell J22 with the following formula, then copy and paste across the range J22:N22:
=J20

23. WRITTEN DOWN VALUES
After doing this, total non-current assets
should equal $37,316m in FY21 and increase
to $39,566m in FY25, and the balance sheet
should balance, as shown below:
Balance Sheet – Fixed Assets

24. WRITTEN DOWN VALUES
Note that the balance sheet now balances because the movement in fixed assets on
the balance sheet in each period is the net of the increase from capital expenditure in
the cash flow statement and decrease from depreciation in the income statement.
Fixed assets are forecast to increase in all forecast periods due to depreciation being
assumed to be 95% of capital expenditure.
The Apple financial model now contains fixed assets on the balance sheet and is
complete down to EBIT on the income statement.