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Free Cash Flow Formulas

This document summarizes key formulas for free cash flow to firm (FCFF) and free cash flow to equity (FCFE) that are important for the CFA Level 2 exam. It explains that FCFF uses an interest tax shield of (1-t) while FCFE uses net borrowing. The formulas are presented from different starting points like net income, EBIT, EBITDA, and cash flow from operations. The document also includes a formula for FCFE with a target debt ratio that only subtracts terms.

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AudreyBenoit
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275 views2 pages

Free Cash Flow Formulas

This document summarizes key formulas for free cash flow to firm (FCFF) and free cash flow to equity (FCFE) that are important for the CFA Level 2 exam. It explains that FCFF uses an interest tax shield of (1-t) while FCFE uses net borrowing. The formulas are presented from different starting points like net income, EBIT, EBITDA, and cash flow from operations. The document also includes a formula for FCFE with a target debt ratio that only subtracts terms.

Uploaded by

AudreyBenoit
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOCX, PDF, TXT or read online on Scribd
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These formulas are essential knowledge for the CFA Level 2 exam and any

candidate needs to memorize them. Unfortunately, the way they are


presented in the text makes them very difficult to memorize. The key to
remembering them is to reorganize them, to get all the things that are
added on one side, and all the things that get subtracted on the other.
Then, remember that:

FCFF uses Interest(1-t) and FCFE uses net borrowing.


From EBIT or EBITDA, you can only get FCFF. Thus, those
formulas use Interest(1-t) and do not have net borrowing.

From Net Income:


FCFF = NI + NCC + Int(1-t) WCinv FCinv
FCFE = NI + NCC + net borrowing WCinv FCinv
CFO = NI + NCC WCinv
From EBIT or EBITDA:
FCFF = EBIT(1-t) + NCC WCinv FCinv
FCFF = EBITDA(1-t) + NCC(t) -WCinv FCinv
(These formulas have four terms, just like EBIT has four
letters. Remember that you can only get FCFF from EBIT or
EBITDA.)
From CFO:
FCFF = CFO + Int(1-t) FCinv
FCFE = CFO + net borrowing FCinv
(These formulas have three terms, like CFO has three
letters. These are the exact same formulas as above for NI,
just with the CFO formula condensed.)
From FCFF:
FCFE = FCFF Int(1-t) + net borrowing
(For all the formulas above, the translation you made to
convert from FCFF to FCFE was to take out (subtract) Int(1t) and replace it with (add) net borrowing, right? So do the
same here.)

With Target Debt Ratio:


FCFE = NI (1 DR)(FCinv dep) (1 DR)(WCinv)

(Remember that this one is only for FCFE, not FCFF. Note that you are
subtracting everything in this formula; there are no plus signs. Where,
in the formulas above, do we subtract? Only when we are dealing with
FCinv or WCinv. Also subtract dep from FCinv because the only kind of
capital that would be depreciated is fixed capital.)

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