Free Cash Flow to Equity (FCFE)
Free Cash Flow to Equity is a method to determine cash flow that belongs to equity shareholders of the company. For the valuation of equity, cash flows may include dividends or free cash flow to equity. But in the case of valuation for takeovers or mergers or in case of change of corporate controls, the value from free cash flow to equity provides better value. FCFE calculator is a tool for simplifying such calculations.
The appropriate discounting rate used with free cash flow to equity is ke (Cost of Equity) calculated using the Capital Asset Pricing Model (CAPM).
Free Cash Flow to Equity Formula
Free Cash Flow to Equity can be calculated with the help of different items in the income statements. These items include net income, EBIT, cash flow from operating activities, or EBITDA. Here, we will calculate FCFE using EBIT (Earnings Before Interest and Tax). The formula for calculation is as follows:
Free Cash Flow to Equity = EBIT – Interest – Tax + Depreciation/Amortization ± Changes in Working Capital – Capital Expenditure ± Net Borrowings
Free Cash Flow to Equity Calculator / Features
FCFE Calculator is an easy-to-go online tool for calculating free cash flows to equity. The following details are required to be entered:
- Earnings before interest and taxes
- Interest
- Tax rate
- Depreciation/amortization
- Changes in working capital
- Capital expenditure
- Net borrowings
Calculator
How to Calculate using FCFE Calculator
FCFE calculator provides effortless calculation results by simply inserting the following values into it:
EBIT
EBIT is the earnings left with the company before making payment of interests and taxes.
Interest
Interest is the payment for the borrowings made by the company.
Tax Rate
It is the tax rate applicable to the company’s earnings.
Depreciation and Amortization
Depreciation is the reduction in the price of fixed assets. And amortization is the term used for the depreciation of intangible assets.
Changes in Working Capital
Changes in working capital are the difference in working capital of the two periods. If the change in working capital is negative, it implies an increment of current assets. And if the change is positive, it represents a decrement in current assets.
Capital Expenditure
Capital expenditure is the company’s investment in fixed assets during the period.
Net Borrowings
Net Borrowings include the sum of the amount borrowed by the company less the amount it repays during the period. It is also available under the head of cash flows from financing activities.
Also Read: Free Cash Flow
Example of Free Cash Flow to Equity
Following is the detail of Alpha Ltd. for computing free cash flow to equity.
- EBIT = $70,000
- Interest = $3,500
- Changes in working capital = $4,000
- Depreciation = $15,000
- Tax Rate = 40%
- CapEx = $11,000
- Net borrowings = $6,000
| Particulars | ($) |
| EBIT | 70,000 |
| Less: Interest | (3,500) |
| EBT | 66,500 |
| Less: Tax @ 40% of 66,500 | (26,600) |
| Earning After Tax | 39,900 |
| Add: Depreciation | 15,000 |
| Less: Changes in Working Capital | (4,000) |
| Less: Capital Expenditure | (11,000) |
| Add: Net Borrowings | 6,000 |
| Free Cash Flows to Equity | 45,900 |
Interpretation
Free cash flow to equity determines potential cash flow to be distributed among shareholders of the company. In the above example, Alpha Ltd. has $45,900 as a free cash flow to be distributed among shareholders. This FCFE is useful in calculating the value of equity of the company.
