{"id":4082,"date":"2019-10-06T13:34:00","date_gmt":"2019-10-06T13:34:00","guid":{"rendered":"https:\/\/analystprep.com\/cfa-level-1-exam\/?p=4082"},"modified":"2026-04-01T19:30:27","modified_gmt":"2026-04-01T19:30:27","slug":"fcff-fcfe-ratios","status":"publish","type":"post","link":"https:\/\/analystprep.com\/cfa-level-1-exam\/financial-reporting-and-analysis\/fcff-fcfe-ratios\/","title":{"rendered":"FCFF and FCFE Ratios"},"content":{"rendered":"\n<script type=\"application\/ld+json\">\n{\n  \"@context\": \"https:\/\/schema.org\",\n  \"@type\": \"VideoObject\",\n  \"name\": \"Understanding Cash Flow Statements (2025 Level I CFA\u00ae Exam \u2013 Financial Reporting and Analysis \u2013 Module 5)\",\n  \"description\": \"This lesson explains cash flow statements for the 2025 CFA\u00ae Level I Financial Reporting and Analysis curriculum. It compares operating, investing, and financing cash flows; explains how non-cash investing and financing activities are reported; and contrasts the direct and indirect methods of presenting operating cash flows. The video also compares IFRS and US GAAP treatment, shows how the cash flow statement links to the income statement and balance sheet, walks through preparation steps for both methods, demonstrates conversion from indirect to direct cash flows, and covers analysis of reported and common-size cash flow statements, free cash flow to the firm, free cash flow to equity, and key performance and coverage ratios.\",\n  \"uploadDate\": \"2022-04-14T00:00:00+00:00\",\n  \"thumbnailUrl\": \"https:\/\/img.youtube.com\/vi\/KlfghhEnOyE\/default.jpg\",\n  \"contentUrl\": \"https:\/\/youtu.be\/KlfghhEnOyE\",\n  \"embedUrl\": \"https:\/\/www.youtube.com\/embed\/KlfghhEnOyE\",\n  \"duration\": \"PT54M03S\"\n}\n<\/script>\n\n<script type=\"application\/ld+json\">\n{\n  \"@context\": \"https:\/\/schema.org\",\n  \"@type\": \"QAPage\",\n  \"mainEntity\": {\n    \"@type\": \"Question\",\n    \"name\": \"Which of the following statements accurately describes free cash flow to the firm (FCFF)?\",\n    \"text\": \"Which of the following statements accurately describes free cash flow to the firm (FCFF)?\",\n    \"answerCount\": 3,\n    \"acceptedAnswer\": {\n      \"@type\": \"Answer\",\n      \"text\": \"The correct answer is B. Free cash flow to the firm (FCFF) is the cash flow that is available to a company\u2019s suppliers of debt and equity capital after the company has paid all its operating expenses and made necessary investments in fixed and working capital.\"\n    }\n  }\n}\n<\/script>\n\n\n\n<p><iframe loading=\"lazy\" src=\"\/\/www.youtube.com\/embed\/KlfghhEnOyE\" width=\"611\" height=\"343\" allowfullscreen=\"allowfullscreen\"><\/iframe><\/p>\n<p>The cash flow statement can be used to compute financial ratios which measure a company\u2019s profitability, performance, and financial strength.<\/p>\n<p>\n\n\n\n\n\n<\/p>\n<p>Other cash flow measures such as free cash flow to the firm, and free cash flow to equity, can also be instrumental in the valuation of a company and its equity securities. Generally speaking, free cash flow refers to the excess of operating cash flow over capital expenditures.<\/p>\n<p>\n\n\n\n<div style=\"margin: 30px 0;\">\n  <a href=\"https:\/\/analystprep.com\/free-trial\/\" target=\"_blank\" rel=\"noopener noreferrer\"\n     style=\"display:block;\n            width:100%;\n            padding:16px 20px;\n            border:2px solid #2f6fed;\n            border-radius:999px;\n            background:#f2f4f8;\n            color:#2f6fed;\n            font-size:16px;\n            font-weight:500;\n            text-decoration:none;\n            text-align:center;\n            line-height:1.2;\">\n    Access our CFA free trial to practice FCFF and FCFE ratio analysis\n  <\/a>\n<\/div>\n\n\n\n<\/p>\n<h2 class=\"wp-block-heading\"><strong>Free Cash Flow to the Firm<\/strong><\/h2>\n<p>\n\n\n\n<\/p>\n<p>Free Cash Flow to the Firm (FCFF) is the cash flow that is available to a company\u2019s suppliers of debt and equity capital after the company has paid all its operating expenses and made the required investments in fixed capital and working capital. It is computed according to the following equation:<\/p>\n<p>\n\n\n\n<\/p>\n<p>FCFF = NI + NCC + Int(1 \u2013 Tax rate) \u2013 FCInv &#8211; WCInv<\/p>\n<p>\n\n\n\n<\/p>\n<p>Where:<\/p>\n<p>\n\n\n\n<\/p>\n<p>NI = Net income;<\/p>\n<p>\n\n\n\n<\/p>\n<p>NCC = Non-cash charges;<\/p>\n<p>\n\n\n\n<\/p>\n<p>Int = Interest expense;<\/p>\n<p>\n\n\n\n<\/p>\n<p>FCInv = Capital expenditures; and<\/p>\n<p>\n\n\n\n<\/p>\n<p>WCInv = Working capital expenditures.<\/p>\n<p>\n\n\n\n<\/p>\n<p>Alternatively, it may be computed as:<\/p>\n<p>\n\n\n\n<\/p>\n<p>FCFF = CFO + Int(1 \u2013 Tax rate) &#8211; FCInv<\/p>\n<p>\n\n\n\n<\/p>\n<p>Where CFO represents cash flow from operating activities in the case where the interest paid is included as an operating activity.<\/p>\n<p>\n\n\n\n<\/p>\n<h2 class=\"wp-block-heading\"><strong>Free Cash Flow to Equity<\/strong><\/h2>\n<p>\n\n\n\n<\/p>\n<p>Free Cash Flow to Equity (FCFE) refers to the cash flow that is available to a company\u2019s common stockholders after the company has paid all its operating expenses and borrowing costs and made the required investments in fixed capital and working capital. It is computed according to the following equation:<\/p>\n<p>\n\n\n\n<\/p>\n<p>FCFE = CFO \u2013 FCInv + Net borrowing<\/p>\n<p>\n\n\n\n<\/p>\n<p>If net borrowing is negative, this means that a company\u2019s debt repayments have exceeded its receipt of borrowed funds. In this case:<\/p>\n<p>\n\n\n\n<\/p>\n<p>FCFE = CFO \u2013 FCInv \u2013 Net debt repayment<\/p>\n<p>\n\n\n\n<\/p>\n<p>A positive FCFE implies that a company has more operating cash flow than it needs to cover capital expenditures and the repayment of debt. Therefore, such a company has cash available for distribution to shareholders.<\/p>\n<p>\n\n\n\n<\/p>\n<h2 class=\"wp-block-heading\"><strong>Cash Flow Performance and Coverage Ratios<\/strong><\/h2>\n<p>\n\n\n\n<\/p>\n<p>Several ratios can be computed using the cash flow from the operating activities segment of a cash flow statement. Data gathered from the computation can be used to compare the performance and prospects of different companies within the same industry or across industries. These ratios fall into two categories: cash flow performance (profitability) ratios, and cash flow coverage (solvency) ratios.<\/p>\n<p>\n\n\n\n<\/p>\n<p>These ratios are summarized in the following table:<\/p>\n<p>\n\n\n\n<\/p>\n<p>$$\\begin{array}{c|c|c} \\textbf{Performance Ratio} &amp; \\quad \\quad \\quad \\textbf{Calculation} \\quad \\quad \\quad &amp; \\textbf{Indication} \\\\ \\hline \\text{Cash flow to revenue} &amp; \\cfrac {\\text{CFO}}{\\text{Net revenue}} &amp; \\begin{array}[t]{c} \\text{Operating cash generated} \\\\ \\text {per dollar of revenue} \\end{array} \\\\ \\hline \\text{Cash return on assets} &amp; \\cfrac { \\text{CFO} }{ \\text{Average total assets}} &amp; \\begin{array}[t]{c} \\text{Operating cash generated} \\\\ \\text {per dollar of} \\\\ \\text{asset investment} \\end{array} \\\\ \\hline \\text{Cash return on equity} &amp; \\cfrac { \\text{CFO} }{\\begin{array}[t]{c} \\text{Average shareholder&#8217;s} \\\\ \\text{equity} \\end{array}} &amp; \\begin{array}[t]{c} \\text{Operating cash generated} \\\\ \\text{per dollar of} \\\\ \\text{owner investment} \\end{array} \\\\ \\hline \\text{Cash to income} &amp; \\cfrac {\\text{CFO}}{\\text{Operating income}} &amp; \\begin{array}[t]{c} \\text{Cash generated from} \\\\ \\text{operations} \\end{array} \\\\ \\hline \\text{Cash flow per share} &amp; \\cfrac {\\text{CFO-Pref. dividends}}{\\begin{array}[t]{c} \\text{Number of common} \\\\ \\text{shares outstanding} \\end{array}} &amp; \\begin{array}[t]{c} \\text{Operating cash flow on a} \\\\ \\text{per share basis} \\end{array}\\\\ \\hline \\text{Debt payment} &amp; \\cfrac {\\text{CFO}}{\\begin{array}[t]{c} \\text{Cash paid for} \\\\ \\text{long term debt payment} \\end{array}} &amp; \\begin{array}[t]{c} \\text{Ability to pay debts} \\\\ \\text{with operating cash flows} \\end{array} \\\\ \\hline \\text{Dividend payment} &amp; \\cfrac {\\text{CFO}}{\\text{Dividends paid}} &amp; \\begin{array}[t]{c} \\text{Ability to pay dividends} \\\\ \\text{with operating cash flows} \\end{array} \\\\ \\hline \\text{Investing and financing} &amp; \\cfrac {\\text{CFO}}{\\begin{array}[t]{c} \\text{Cash outflows for} \\\\ \\text{Inv. and Fin. activities} \\end{array}} &amp; \\begin{array}[t]{c} \\text{Ability to acquire assets,} \\\\ \\text{pay debts, and make} \\\\ \\text{distributions to owners} \\end{array} \\\\ \\hline \\text{Debt coverage} &amp; \\cfrac {\\text{CFO}}{\\text{Total debt}} &amp; \\begin{array}[t]{c} \\text{Financial risk and} \\\\ \\text{financial leverage} \\end{array} \\\\ \\hline \\text{Interest coverage} &amp; \\cfrac { \\begin{array}[t]{c} \\text{CFO + Interest paid} \\\\ \\text{+ Taxes paid} \\end{array}}{\\text{Interest paid}} &amp; \\begin{array}[t]{c} \\text{Ability to meet} \\\\ \\text{interest obligations} \\end{array} \\\\ \\hline \\text{Reinvestment} &amp; \\cfrac {\\text{CFO}}{\\begin{array}[t]{c} \\text{Cash paid for} \\\\ \\text{long term assets} \\end{array}} &amp; \\begin{array}[t]{c} \\text{Ability to acquire} \\\\ \\text{assets with} \\\\ \\text{operating cash flows} \\end{array} \\\\ \\end{array} $$<\/p>\n<p>\n\n\n\n<\/p>\n<blockquote>\n<h3><strong>Question 1<\/strong><\/h3>\n<p>Which of the following statements accurately describes free cash flow to the firm (FCFF)?<\/p>\n<ol style=\"list-style-type: upper-alpha;\">\n<li>Cash flow that is available to a company\u2019s suppliers of debt capital after the company has paid all its operating expenses and made necessary investments in fixed and working capital.<\/li>\n<li>Cash flow that is available to a company\u2019s suppliers of debt and equity capital after the company has paid all its operating expenses and made necessary investments in fixed and working capital.<\/li>\n<li>Cash flow that is available to a company\u2019s common stockholders after the company has paid all its operating expenses and borrowing costs and made necessary investments in fixed and working capital.<\/li>\n<\/ol>\n<p><strong>Solution<\/strong><\/p>\n<p>The correct answer is <strong>B<\/strong>.<\/p>\n<p>Free cash flow to the firm (FCFF) is the cash flow that is available to a company\u2019s suppliers of debt and equity capital after the company has paid all its operating expenses and made necessary investments in fixed and working capital. Option B describes free cash flow to equity (FCFE). Option C is partially correct, but inaccurately excludes suppliers of equity capital in its definition.<\/p>\n<h3><strong>Question 2<\/strong><\/h3>\n<p>U&amp;U Ltd. reported the following information in its latest financial reports:<\/p>\n<p>Beginning borrowing balance: $200,000<\/p>\n<p>Ending borrowing balance: $250,000<\/p>\n<p>Cash from operations: $500,000<\/p>\n<p>Fixed capital investment: $100,000<\/p>\n<p>U&amp;U\u2019s free cash flow to equity (FCFE) is <em>closest to<\/em>:<\/p>\n<ol style=\"list-style-type: upper-alpha;\">\n<li>$50,000<\/li>\n<li>$150,000<\/li>\n<li>$550,000<\/li>\n<\/ol>\n<p><strong>Solution<\/strong><\/p>\n<p>The correct answer is <strong>C<\/strong>.<br \/>$$\\text{FCFE =<br \/>Cash from operations<br \/>\u2013 Fixed capital investment<br \/>+ Net borrowing}$$<\/p>\n<p>Where:\u00a0<br \/>$$\\begin{align}\\text{Net borrowing}&amp; = \\text{Ending borrowing balance \u2013 Beginning borrowing balance}\\\\ &amp; = $250,000 \u2013 $200,000 = $50,000\\\\\u00a0 \\Rightarrow \\text{FCFE} &amp;= $500,000 \u2013 $100,000 + $50,000 = $450,000 \\end{align}$$<\/p>\n<\/blockquote>\n<p>\n\n\n\n<div style=\"background:#f2f4f8; border-radius:16px; padding:32px 20px; text-align:center; margin:40px 0;\">\n  \n  <a href=\"https:\/\/analystprep.com\/free-trial\/\" target=\"_blank\" rel=\"noopener noreferrer\"\n     style=\"display:inline-block;\n            background:#4a74c9;\n            color:#ffffff;\n            font-size:16px;\n            font-weight:600;\n            text-decoration:none;\n            padding:14px 34px;\n            border-radius:999px;\n            margin-bottom:16px;\">\n    Start Free Trial\n  <\/a>\n\n  <p style=\"margin:0 auto; max-width:520px; font-size:16px; line-height:1.6; color:#1f2937;\">\n    Improve your ability to analyze firm and equity cash flows with structured CFA Level I practice.\n  <\/p>\n\n<\/div>\n\n\n<\/p>\n<p><!-- \/wp:post-content --><\/p>\n<p><!-- wp:tadv\/classic-paragraph \/--><\/p>","protected":false},"excerpt":{"rendered":"<p>The cash flow statement can be used to compute financial ratios which measure a company\u2019s profitability, performance, and financial strength. Other cash flow measures such as free cash flow to the firm, and free cash flow to equity, can also&#8230;<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[5],"tags":[],"class_list":["post-4082","post","type-post","status-publish","format-standard","hentry","category-financial-reporting-and-analysis","blog-post","no-post-thumbnail","animate"],"acf":[],"yoast_head":"<!-- This site is optimized with the Yoast SEO plugin v26.9 - https:\/\/yoast.com\/product\/yoast-seo-wordpress\/ -->\n<title>FCFF &amp; FCFE Ratios Explained | CFA Level 1<\/title>\n<meta name=\"description\" content=\"FCFF and FCFE ratios, derived from cash flow statements, assess a company&#039;s profitability, financial performance, and shareholder equity value.\" \/>\n<meta name=\"robots\" content=\"index, follow, max-snippet:-1, max-image-preview:large, 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