free cash flow for firm

CFA Level I
#1

There are 2 equation to calculate FCFF

1 FCFF = Net Income + Non-cash item + Interest(1-TAX) - Fixed Capital Inv. - Working Capital Expense 2 FCFF = CFO + Interest(1-TAX) - Fixed Capital Inv.

Make the right side of above equal we can get: CFO = Net Income + Non-cash item - Working Capital Expense

How to explain above equation?

Thanks,

#2

Can you clarify your question? If you mean how the equation reduces: -

FCFF = CFO + Interest(1-TAX) - Fixed Capital Inv

CFO = FCFF - Interest(1-TAX) + Fixed Capital Inv.

CFO = Net Income + Non-cash item + Interest(1-TAX) - Fixed Capital Inv. - Working Capital Expense - Interest(1-TAX) + Fixed Capital Inv.

If you mean, why does “CFO = Net Income + Non-cash item - Working Capital Expense” hold, based on my vague memories of FRA, isn’t that how the indirect method works for calculating CFO?

#3

That’s just the indirect method for CFO (with the exception that this formula assumes that there aren’t any nonoperating gains/losses included in net income).

I wrote an article on this that may be helpful: http://financialexamhelp123.com/cfo-indirect-method/.

#4

got it… Thanks for S2000magician and fzian. BTW, u r artical is awesome, S2000

smiley

#5

My pleasure.

You’re too kind.