So to simplify, say your net income is 20 and you have working cap of 2, fixed cap of 2, dep of 1 you will borrow 40% of your investments you can either say fcfe=20-2-2+1+0.4(2+2-1)=18.2 of fcfe=20-(0.6(2+2-1))=18. ![]() You just subtract a smaller portion to account for the fact that you will borrow to cover the rest. Forecasting some components of free cash flow: These components are EBIT(1Tax), net non-cash charges, fixed capital investments, working capital investments. Second equation, rather than subtract the full investments, then add net borrwing. This would be appropriate if the historical free cash flow has been growing at a constant rate, which is expected to continue in the future. But it also adds the net borrowing because we can use that new money to pay equity holders. ![]() ![]() " In formula #2, ‘net borrowing’ is not taken into account since debt is not part of the equity forecast " I still dont get what you meen by this, net borrowing is taken into account in both equations The first equation subtracts what we have to pay for investments to get to what is available to equity holders. With leverage, a small decrease in net operating income (NOI) negatively magnifies the amount of cash flow available to equity investors after debt service. My friend, you either got it wrrong to a certain extent, or I am just net getting you… I already have a thread discussing almost the same thing, only a few days old, but anyway here is what I gota say… First of all regarding the NCC, its not about being taken care in NI or anything like that, in a matter of fact I would say feel free to add NCC to formula one if you want to page 413, they told you “we assume that depreciation is the only noncash charge” so thats all it is, an assumption to simplify things, and if you have reason to belive NCC will exist and you are able to forcast them, should should include them in formula 2 What do you meen net borrowing is not taken into account in formula 2? It is embeded in the way we are paying for Fixedcap and Workingcap…hek if you wana see net borrowing in the formula (if that makes you feel better), remove the (1-dr) from the formula, and now add net borrowing of equal to (working cap invs+fixed cap invest - depreciation)*DR "a) Formula #2 takes into account only the equity portion of FCInv and WCInv since the forecast only pertains to free cash flow to equity " so regarding this statemnt, all there is to it is that formula one is adding net borrowing explictly, and formula 2 is embeding it in another way… sorry if my explanation is messy, ats 3 am and i still got 3 more hours of studying to do… i think if you slow down and read the assumptions and derivations of the formula you WILL get it… else ask and we will try to help take care FCFE NI - (1 - DR) x (FCInv - Dep) - (1 - DR) x WCInv, where DR target Debt-to-Asset ratio From my understanding these are what I can pick out: a) Formula 2 takes into account only the equity portion of FCInv and WCInv since the forecast only pertains to free cash flow to equity b) In formula 2, ‘NCC’ (as stated in formula 1) is not.
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