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Free cash flow (FCF)

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Principles of Finance

Definition

Free cash flow (FCF) represents the amount of cash generated by a business that is available for distribution to its security holders after accounting for capital expenditures. It indicates the financial health and efficiency of a company in generating cash through operations while maintaining and expanding its asset base.

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5 Must Know Facts For Your Next Test

  1. FCF is calculated as operating cash flow minus capital expenditures.
  2. A positive FCF indicates that a company can reinvest in its business, pay dividends, or reduce debt.
  3. Negative FCF may suggest that a company is investing heavily in its growth or struggling to generate sufficient cash from operations.
  4. Investors closely monitor FCF as it provides insight into a company's ability to generate surplus cash and reward shareholders.
  5. FCF differs from net income as it excludes non-cash expenses such as depreciation and amortization.

Review Questions

  • How do you calculate free cash flow?
  • What does a positive free cash flow imply about a company's financial health?
  • Why might investors prefer analyzing FCF over net income?
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