Example

Anson Ford, CFA, is analyzing the financial statements of Sting’s Delicatessen. He has a 20X6 income statement and balance sheet, as well as 20X7 income statement, balance sheet, and cash flow from operations forecasts (as shown in the following tables). Assume there will be no sales of long term assets in 20X7.

Calculate forecasted free cash flow to the firm (FCFF) and free cash flow to equity (FCFE) for 20X7.

Sting’s Income Statement

Sting’s Balance Sheet

Sting’s Cash Flow From Operations Forecast

Solution

Fixed capital investment is equal to capital expenditures (because there are no asset sales), which is equal to the change in net PP&E plus depreciation:

Working capital investment is the change in the working capital accounts, excluding cash and short term borrowings:

Given that depreciation is the only noncash charge, we can calculate FCFF from net income:

It’s entirely possible that FCFF can be negative in the short term. We’ll talk more later about how to value firms with negative FCFF.

Net borrowing is the difference between the new debt issues and debt repayments, and is calculated as the change in long and short term debt:

Calculate FCFF starting with EBIT, EBITDA, and CFO, and calculate FCFE starting with NI and CFO.

Solution

In order to see how all these formulas fit together, reconstruct the framework from Figure 19.2 using the actual numbers from the previous example.

Solution

An analyst may also be concerned about the uses of cash flow. Typically, this is done to verify the FCFF calculation, as FCFF sources must always equal FCFF uses, and FCFE sources must always equal FCFE uses.