Free Cash Flow
Quick definition: Free cash flow is the cash a company has left after operations and investments: the money available for dividends, debt repayment and buybacks.
In plain English
Free cash flow (FCF) = cash from operations − capital expenditures
Profit is an accounting number. Cash is what pays the dividend.
Example
A company generates $500 million from operations and spends $200 million on equipment. Its free cash flow is $300 million. If it pays $250 million in dividends, the dividend is covered, but with little room to spare.
Why it matters
A dividend that is not covered by free cash flow has to be paid from debt or savings, which cannot continue for long.
Common mistakes
- Looking at one year. Cash flow can be uneven.
- Forgetting that heavy investment can reduce FCF for good reasons.
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