BALANCECHEAT / FIELD NOTES

Free cash flow: formula, example and calculator

Profit is an accounting result. Free cash flow shows what remains from operating cash after investment in long-term assets.

What is free cash flow?

Free cash flow (FCF) is cash generated by operations after capital expenditure. It helps explain a company’s capacity to reduce debt, pay dividends or accumulate liquidity. It is not a standardized line item with one universal definition, so always state the formula you use.

Free cash flow = cash flow from operations − capex

A worked example

A business reports €1.2m net income and €0.3m depreciation. Receivables grow by €0.2m, inventory by €0.1m and payables by €0.15m. With no other changes, operating cash flow is €1.2m + €0.3m − €0.2m − €0.1m + €0.15m = €1.35m. Capex of €0.5m leaves €0.85m FCF.

Where each number comes from

Net income begins in the Income Statement. Depreciation is added back because it is not a current cash payment. Changes in working capital reconcile accrual accounting with receipts and payments. Capex appears as an investing outflow and increases PP&E on the Balance Sheet.

FCF is not EBITDA

EBITDA excludes depreciation but also ignores cash taxes, interest, working-capital investment and capex. A growing company can report positive EBITDA and negative FCF when receivables or inventory absorb cash. Buying equipment reduces FCF immediately even when its accounting expense is spread across many years.

Interpretation and limitations

Positive FCF can support distributions, but cash may still be needed for debt maturities or commitments. Negative FCF can reflect productive expansion or weak operations; investigate the source. Separate maintenance and growth capex if reliable information is available.

BalanceCheat uses CFO after cash interest and taxes, minus capex, before financing flows and dividends. This is a levered FCF measure. It differs from unlevered free cash flow used in many enterprise valuations. Do not subtract depreciation a second time.

Connect the model

Try increasing DSO in the interactive financial model: income stays constant, receivables increase, and CFO and FCF fall. The cash conversion cycle explains this operating timing effect.