One of the methods of calculating the free cash flow to equity (FCFE) involves the use of EBIT. Recall that the company’s net income is related to EBIT through the following equation:
Net Income = EBIT – Interest – Taxes
Thus, we can substitute net income in the FCFE from net income formula with the equation above:
FCFE = EBIT – Interest – Taxes + Depreciation & Amortization – ΔWorking Capital – CapEx + Net Borrowing
FCFE – Free Cash Flow to Equity
EBIT – Earnings Before Interest and Taxes
ΔWorking Capital – Change in the Working Capital
CapEx – Capital Expenditure
The abovementioned approach to calculating the FCFE provides a more detailed overview of the composition of the free cash flows to equity (FCFE). Note that this level of granularity is not always required in a financial model.
In some cases, it can result in negative effects, as it complicates the comprehension of a model. However, it is acceptable to apply this variation of FCFE calculation when the assessment of the company’s profitability from its regular business activities is essential.
FCFE from CFO Formula and Financial Statements
An analyst who calculates the free cash flows to equity in a financial model must be able to quickly navigate through financial statements. The primary reason is that all the inputs required for the calculation of the metric are taken from the financial statements. The guidance below will help you to quickly and correctly incorporate the FCFE from EBIT calculation into a financial model.
EBIT: The company’s earnings before interests and taxes (EBIT) are recorded on the company’s income statement.
Interest: The company’s interest expenses are located on the income statement after EBIT.
Taxes: The tax payments can also be found on the income statement after the earnings before taxes (EBT).
Depreciation & Amortization: The depreciation and amortization expense is recorded on the company’s income statement under the Expenses section. The section follows the company’s gross profit. Similar to net income, the depreciation and amortization expense is also listed on the cash flow statement, in the Cash from Operations section.
CapEx: The capital expenditure (CapEx) can be found on the cash flow statement within the Cash from Investing section.
Change in Working Capital (can also be denoted as ΔWorking Capital) is calculated in the company’s cash flow statement within the Cash from Operations section.
Net Debt: The net debt amount is also located on the cash flow statement, under the Cash from Investing section.
Thank you for reading CFI’s guide to Calculating FCFE from EBIT. To keep learning and advancing your career, the following CFI resources will be helpful:
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