Free Cash Flow (FCF): Definition and Why It Matters
Free cash flow represents the cash a company generates after accounting for capital expenditures necessary to maintain or grow the business. It is a central input into DCF valuation and is used to assess the company's ability to return cash to shareholders.
Formula
Variations include leveraging EBIT/EBITDA adjustments or using net income plus non-cash charges and changes in working capital.
Notes
- FCF is a core input for DCF models.
- CapEx timing can significantly affect FCF in cyclical industries.
Why FCF matters in investment analysis
Free Cash Flow is crucial for valuation as it represents the actual cash available to equity holders after necessary reinvestment. Unlike earnings, FCF cannot be easily manipulated and provides a clearer picture of a company's financial health and ability to generate shareholder value.