FCF Formula

Free Cash Flow to equity

What is the FCF Formula?

The Free Cash Flow FCF Formula is equal to Cash from Operations minus Capital Expenditures.  FCF represents the amount of cash generated by a business, after accounting reinvestment in non-current capital assets.  This figure is also sometimes referred to as “Levered Free Cash Flow”, or “Free Cash Flow to Equity”.

Formula:

FCF = Cash from Operations – CapEx

 

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How to derive the FCF Formula

If you don’t have the cash flow statement handy to find Cash From Operations and Capital Expenditures, you can derive it from the Income statement and balance sheet.

Below we will walk through each of the step required to derive the FCF Formula from the very beginning.

 

Step #1 Cash From Operations

Cash From Operations is net income plus any non-cash expenses, adjusted for changes in non-cash working capital (accounts receivable, inventory, accounts payable, etc).

Thus, the formula for Cash From Operations (CFO) is:

CFO = Net Income + non-cash expenses – change in non-cash net working capital

 

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Step #2 Non-Cash Expenses

We can further break down non-cash expenses into simply the sum an all items listed on the income statement that do not affect cash.

The most common items that do not affect cash are depreciation and amortization, stock based compensation, impairment charges, and gains/losses on investments.

Thus, the formula for non-cash adjustments is:

Adjustments = depreciation + amortization + stock-based compensation + impairment charges + gains/losses on investments

 

Step #3 Changes in non-cash net working capital

Changes in non-cash net working capital is typically the most complicated step in deriving the FCF Formula, especially if the company has a complicated balance sheet.

The most common items that impact the formula (on a simple balance sheet) are accounts receivable, inventory and accounts payable.

Thus, the formula for changes in non-cash working capital is:

Changes  =  (2017 AR – 2016 AR)  +  (2017 Inventory – 2016 Inventory)  –  (2017 AP – 2016 AP)

Where

AR = accounts receivable

AP = accounts payable

2017 = current period

2016 = prior period

 

Step #4 Capital Expenditures

It is possible to derive capital expenditures for a company without the cash flow statement.  To do this, we can use the following formula with line items from the balance sheet and income statement.

Thus, the formula for capital expenditures is:

CapEx = 2017 PP&E – 2016 PP&E + Depreciation & Amortization

 

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Step #5 Combining the components of the FCF Formula

We can combine the above four steps into one long FCF formula.

The Full FCF Formula is equal to:

FCF = Net Income  +  [depreciation + amortization + stock-based compensation + impairment charges + gains/losses on investments]  –  [(2017 AR – 2016 AR)  +  (2017 Inventory – 2016 Inventory)  –  (2017 AP – 2016 AP)]  –  [2017 PP&E – 2016 PP&E + Depreciation & Amortization]

 

In practical terms, it would not make sense to calculate FCF all in one formula.  Instead, it would usually be done as several separate calculations, as we showed in the first 4 steps of the derivation.

 

The simplified formula is:

FCF = Cash from Operations – CapEx

 

What is Free Cash Flow vs Unlevered Free Cash Flow?

When corporate finance professionals refer to Free Cash Flow, they also may be referring to Unlevered Free Cash Flow, or Free Cash Flow to the Firm (FCFF).

The difference between regular Free Cash Flow and Unlevered Free Cash Flow is that regular FCF includes the company’s interest expense, whereas the unlevered version backs out the interest expense and makes an estimate of what taxes would be without the interest expense.

To learn more, see our guide on FCF vs Unlevered FCF.

 

The FCF Formula in financial modeling and valuation

When it comes to financial modeling and performing company valuations in Excel, most analysts use unlevered FCF.  They will typically create a separate schedule in the model where the break down the calculation into simple steps and all components together.

Below is an example of the unlevered FCF calculation from a real financial model.

 

FCF Formula example

 

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More relevant resources

We hope this has been a helpful guide to understanding the FCF formula, how to derive it, and how to calculate FCF yourself.

To keep learning and developing your career, please check out these additional resources: