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Unformatted text preview: cause firms
often have to reinvest to maintain assets and these capital investments (which do not
show up in income statements) will reduce cash flows.
For dividends to be truly sustainable, the cash flows left over after capital expenditures have
to be greater than the dividends.
How can you measure the cashflows available for dividends? One measure is the
free cashflow to equity, which measures cash left over after meeting reinvestment needs. To
measure the cashflow to equity, you begin with the net income and make the following
• You add back non-cash accounting expenses such as depreciation and amortization.
• You subtract out capital expenditures since they represent a cash drain on the firm.
While some analysts draw a distinction between non-discretionary and discretionary
capital expenditures, you will consider all such expenditures in computing free
cashflows to equity.
• You will subtract out the change in non-cash working capital to arrive at the cash
flow. Thus, an increase in working capital (inventory...
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This note was uploaded on 01/17/2012 for the course ECON 101 taught by Professor Econnorm during the Spring '11 term at Art Institutes Intl. Minnesota.
- Spring '11