Question: FCFE and Debt Finance

CFA Level II
#1

Hi Guys,

If 20% of the net investment in assets is financed with debt.

Then

FCFE = NI - 0.8 (FCInv - Dep ) - 0.8 WCInv

Why shoud the Dep be deducted?

I use the formula:

FCFE= NI - FCInv -WCInv + Net Borrowing

= NI - FCInv- WCInv + 0.2 (FCInv + WCInv)

= NI - 0.8 FCInv- 0.8 WCInv

Why is it wrong?

Thanks for posting~

#2

you formula is wrong (no dep)

FCFE = NI + dep - WC - FC + net borrowing

if ALL capital is financed at 20% debt then basically, mathematically net borrowing is 20% of dep, WC, and FC

depreciation is included because it is a calculation from capital (subracting from asset) to begin with.

thus

FCFE = NI + 1 (dep - WC - FC) + .2 (dep - WC - FC) = NI + .8dep - .8WC - .8FC

#3

Yes, you are right!

Thanks for explanation and best luck in the exam :slight_smile: