Free cash flow

Free cash flow measures a firm's cash flow remaining after all expenditures required to maintain or expand the business, including interest payments as well as investments in assets used to maintain or expand the business (including but not limited to those described as "property, plant and equipment" or "PP&E").

Free cash flow for a US company can be calculated from its public financial filings by referring to the statement of cash flows and subtracting all expenditures on "PP&E" and any other assets used to maintain or expand the business from the firm's cash flow produced by operating activities.

Free cash flow is a measure of the cash produced by the firm in a given period on behalf of equity holders. The true measure of the value of a firm's equity is considered to be the present value of all free cash flows. In contrast to accounting measures of value, free cash flows are more transparent in the sense that a firm engages in less "editing" of the input values before publishing them in financial statements; they are more complete in that they factor in cash uses (and sources) typically ignored by accounting measures of income such as expansion (or shrinkage) in accounts receivables; but they require more expertise and judgment to analyze because they directly reveal the "lumpiness" in a firm's flow of capital expenditures, which accounting measures smooth out.

Example

Dell Inc.'s net income for the year ended January 30th, 2004, as determined using US Generally Accepted Accounting Principles was $2.645 billion. The firm's operating cash flow (net cash provided by operating activities) for the same period was $3.670 billion, and the firm expended $329 million on "capital expenditures" and $636 million on the "purchase of assets held in master lease facilities". Dell's free cash flow was thus $3,670,000,000 - $329,000,000 - $636,000,000 or $2.705 billion.