What is Free Cash Flow?
Most people like to have some money left over after paying the bills–to take a trip, fix up the house, or save for a rainy day. Businesses are no different. But what we call mad money, they call free cash flow. It represents the cash a firm has generated for its shareholders, after paying its expenses and investing in its growth. Free cash flow is equal to total cash flow (earnings with noncash charges added back in) minus capital spending. Free cash flow can be very useful in assessing a company’s financial health because it strips away all the accounting assumptions built into earnings. A company’s earnings may be high and growing, but until you look at free cash flow, you don’t know if the company’s really generated money in a given year or not. If you’re an owner, that’s ultimately what you’re interested in. Free cash flows represent real cash. Earnings do not.
