FCFE is different from Free Cash Flow to Firm (FCFF), which indicates the amount of cash generated to all holders of the company’s securities (both investors and lenders).
FCFE from CFO Formula
One of the approaches to calculating free cash flow to equity is based on the use of cash flow from operations (CFO) from the company’s cash flow statement. Cash flow from operations (also known as operating cash flow) is the amount of cash generated by a company from its ongoing business activities, excluding any financing and investing activities.
Essentially, the abovementioned approach is a shortcut to the FCFE from net income approach. Recall that the cash from operations is calculated using the formula below:
CFO = Net Income + Depreciation & Amortization – ΔWorking Capital
CFO – Cash flow from operations
ΔWorking Capital – Change in working capital
At the same time, FCFE from net income is calculated through the following formula:
FCFE = Net Income + Depreciation & Amortization – ΔWorking Capital – CapEx + Net Borrowing
Thus, we can rewrite the formula above by substituting the first three variables with the cash flow from operations (CFO) figure:
FCFE = CFO – CapEx + Net Borrowing
The formula above provides a simpler approach for calculating FCFE as it reduces the number of variables employed. Due to this reason, the calculation method is more suitable in a financial model as it makes the model more coherent and comprehensible by simplifying the calculations within a model.
FCFE from CFO Formula and Financial Statements
An analyst who calculates the free cash flows to equity in a financial model must quickly navigate a company’s financial statements. The primary reason is that all inputs required to calculate the metric are taken from the financial statements. The guidance below will help you to quickly and correctly incorporate the FCFE from CFO calculation into a financial model.
Cash flow from operations (CFO): The CFO metric is calculated in the first section of the company’s cash flow statement.
CapEx: The capital expenditure (CapEx) can be found on the cash flow statement within the Cash from Investing section.
Net borrowing: Net debt amount is also located on the cash flow statement under the Cash from Financing section.
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