Free Cash Flow Formula (FCF)

Article byAshish Kumar Srivastav
Reviewed byDheeraj Vaidya, CFA, FRM

What is the Free Cash Flow Formula (FCF)?

Free cash flow can be defined as cash in hand of a company after paying all the expenses. Cash is an important element of business. It is required for business functioning; some investors provide more to cash flow statements than other financial statements. Free cash flow is a measure of cash a company generates after paying all expenses and loans. It helps find an actual financial condition of free cash flowFree Cash FlowThe cash flow to the firm or equity after paying off all debts and commitments is referred to as free cash flow (FCF). It measures how much cash a firm makes after deducting its needed working capital and capital expenditures (CAPEX).read more reflected in the cash statement. The Free Cash Flow (FCF) formula is operating cash flowOperating Cash FlowCash flow from Operations is the first of the three parts of the cash flow statement that shows the cash inflows and outflows from core operating business in an accounting year. Operating Activities includes cash received from Sales, cash expenses paid for direct costs as well as payment is done for funding working capital.read more minus capital expenditureCapital ExpenditureCapex or Capital Expenditure is the expense of the company's total purchases of assets during a given period determined by adding the net increase in factory, property, equipment, and depreciation expense during a fiscal year.read more.

Free Cash Flow Formula = Operating Cash Flow – Capital Expenditure

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Source: Free Cash Flow Formula (FCF) (wallstreetmojo.com)

The free cash flow equation helps to find the true profitability. It also helps to calculate the dividend payout available to distribute to a shareholder. Through this, investors get clarity about the company’s financial condition, which provides details about a company’s liquidity.

There is another formula to calculate free cash flow: net income plus non-cash expenseNon-cash ExpenseNon-cash expenses are those expenses recorded in the firm's income statement for the period under consideration; such costs are not paid or dealt with in cash by the firm. It involves expenses such as depreciation.read more minus the increase in working capital minus capital expenditure.

The formula for calculating Free Cash Flow (FCF) is as follows: –

fcf formula2

Key Takeaways

• Free Cash Flow (FCF) formula is used to find the company’s remaining cash after meeting expenses and is an important financial metric.

• The formula for FCF is operating cash flow minus capital expenditure, providing insight into a company’s ability to generate cash.

• FCF helps assess profitability, evaluate dividend potential, determine a company’s liquidity and financial position, and make informed investment decisions.

• An alternative FCF formula is net income plus non-cash expenses minus the increase in working capital and capital expenditure, offering an additional perspective on cash flow dynamics and financial health.

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Calculate FCF using Free Cash Flow Formula – Step by Step

Using the PPE approach, one can calculate capital expenditure: property, plant, and equipment. One can calculate the formula for the same, given below: –

Now, let us see the steps to calculate FCF and formula components.

  1. To Calculate Cash from Operations and Net income


    Cash from the operation is net income plus non-cash expense minus an increase in non-cash working capital.

    Cash from Operations = Net income + Non-Cash Expense Increase in Non-Cash Working Capital.

  2. To Calculate Non-Cash Expense.


    It is a sum of depreciation, amortization, share-based compensation, impairment charges, and gains or losses on investments.

    Non-Cash Expense = Depreciation + Amortization + Stock-based compensation + Impairment Charges + Gains or losses on Investments

  3. Calculate Non-Cash Net Working Capital Changes or Increases in Working Capital


    One can calculate changes in working capital by comparing current year inventory, account receivable, or account payable with previous year values. They can write the formula as –

    Change in Working Capital = (AR2018 AR2017) + (Inventory2018 Inventory2017) – (AP2018 AP2017)

    When,
    AR = Account Receivable
    AP = Account Payable

  4. Calculate Capital Expenditure.


    Using the PPE approach, one can calculate capital expenditure: property, plant, and equipment. One can calculate the formula for the same, given below: –

    CapEx = PPE2018PPE2017 + Depreciation + Amortization

    When,
    PPE = Property, Plant, and Equipment

  5. Calculate the FCF Formula.


    Now as we know, the formula for FCF is:-

    Free Cash Flow (FCF) Formula = Net Income + Non-cash expenses + Increase in working capital – Capital Expenditure

    Putting the value calculated in step 1 to step 4 in the above.

    FCF = Net Income + Depreciation + Amortization + Stock based compensation + Impairment Charges + Gains or losses on Investments + {(AR2018 – AR2017) + (Inventory2018 – Inventory2017) – (AP2018 – AP2017)} – {PPE2018 – PPE2017 + Depreciation + Amortization}

    Simply,

    Free Cash Flow Formula = Cash from Operations – CapEx.

Free Cash Flow Example | Video with Explanation

 

Examples of FCF Formula (with Excel Template)

Let us see some simple to advanced examples to understand the free cash flow formula calculation better.

You can download this Free Cash Flow Formula Excel Template here – Free Cash Flow Formula Excel Template

Example #1

Greenfield Pvt. Ltd., which deals with organic vegetables, has a capital expenditure of $200 and an operating cash flow of $1,100. Now, calculate the free cash flow for the company.

The below-given template is the data for calculating the free cash flow equation.

Free cash Flow formula example1.1

So, the calculation of free cash flow will be:-

free cash flow formula example1.2

Free Cash Flow Formula = $1,100 – $200

So, Free Cash Flow will be:-

free cash flow formula example1.3

Free cash flow for Greenfield Pvt. Ltd is $900.00 after reducing capital expenditure.

Example #2

Let us see an example to calculate free cash flow with another formula.

Suppose a company with a net income of $2,000, capital expenditure of $600, non-cash expense of $300, and an increase in working capital of $250.

The below-given template is the data for calculating the free cash flow equation.

free cash flow formula example2.1

So, the calculation of free cash flow will be: –

free cash flow formula example2.2

FCF = 2000 + 300 – 250 – 600

Free Cash Flow will be: –

fcf formula example2.3

Free Cash Flow, i.e., FCF of a company, is $1,450.00.

Other Free Cash Flow Formulas

There are two types of free cash flow- FCFF and FCFE.

#1 – Free Cash to the Firm (FCFF) Formula

FCFF is also called unlevered. Therefore, a company can generate cash for its capital expenditure. FCFFFCFFFCFF (Free cash flow to firm), or unleveled cash flow, is the cash remaining after depreciation, taxes, and other investment costs are paid from the revenue. It represents the amount of cash flow available to all the funding holders – debt holders, stockholders, preferred stockholders or bondholders.read more is cash flow from operating activities minus capital expenditure.

fcf formula3
Example of FCFF

Suppose a company with a capital expenditure of $1,000 and cash flow from operating activities is $2,500. Now, let us calculate FCFF.

The below-given template is the data for the free cash to firm calculation.

fcf formula example3.1

So, the calculation of FCFF will be –

fcf formula example3.2

FCFF = 2500 – 1000

Therefore, FCFF will be:-

fcf formula example3.3

So, FCFF for company is $1,500.00

#2 – Free Cash Flow to Equity (FCFE) Formula

FCFEFCFEFCFE (Free Cash Flow to Equity) determines the remaining cash with the company's investors or equity shareholders after extending funds for debt repayment, interest payment and reinvestment. It is an indicator of the company's equity capital managementread more is cash available for a company shareholder to distribute a dividend. It helps to calculate the dividend payout available to distribute to a shareholder.

FCFE is a sum of free cash to the firm plus net borrowing minus interest multiplied by one minus tax.

fcf formula4
Example of FCFE

Let us take an example where a company with a capital expenditure of $1,000, net borrowing of $500 with an interest of $200, tax of 25%, and cash flow from operating activities is $2,500. Now, let us calculate FCFF.

The below-given template is the data for calculating Free Cash Flow to Equity (FCFE).

fcf formula example4.1

FCFF –

fcf formula example4.2

FCFF Formula= 2500 – 1000

FCFF = $1,500.00.

So, the calculation of FCFE will be –

fcf formula example4.3

FCFE Formula = 1500 + 500 – 200 * (1-.25)

Therefore, FCFE will be:-

fcf formula example4.4

So, FCFE for a company is $1,850.00

Free Cash Flow Calculator

You can use the following free cash flow calculator: –

Operating Cash Flow
Capital Expenditure
Free Cash Flow Formula
 

Free Cash Flow Formula = Operating Cash Flow Capital Expenditure
0 0 = 0

Relevance and Use

There are multiple uses of the free cash flow equation. They are as follows: –

  • To calculate the profitability of a company.
  • To get a financial position in a company.
  • The free cash flow formula helps a company decide on new products, debt, and business opportunities.
  • The free cash flow formula helps to know the cash available, which has to be distributed among company shareholders.

Suppose the FCF of a company is high. It means a company has sufficient funds for a new product launch, business expansion, and growth. Still, sometimes if a company has a low FCF, it may be possible to have a huge investment, and the company may grow in the long run. That is because FCF helps an investor to calculate their profitable returns on investment in a particular company.

Frequently Asked Questions (FAQs)

1. What are the assumptions associated with the Free Cash Flow formula?

The Free Cash Flow formula assumes that operating cash flow accurately represents cash generated, capital expenditure is correctly estimated, non-cash expenses and working capital changes are properly accounted for, and no significant unexpected events impact cash flow.

2. What are the limitations of the Free Cash Flow formula?

Limitations of the Free Cash Flow formula include its sensitivity to estimates and assumptions, potential distortions from accounting practices, its focus on historical data rather than future uncertainties, and the possibility of unforeseen changes in the business environment affecting cash flow.

3. What is levered Free Cash Flow?

Levered Free Cash Flow considers the impact of debt and interest expenses on cash flow. It deducts interest payments from operating cash flow to reflect the financial obligations of a leveraged company. It provides a clearer picture of the cash available to equity holders after meeting debt obligations.

Recommended Articles

This article is a guide to Free Cash Flow Formula. We discuss the Free Cash Flow (FCF) calculator using practical examples and a downloadable Excel template. You can learn more about financial analysis from the following articles: –