You will subtract out the change in non cash working

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Unformatted text preview: or accounts receivable, for instance) will reduce cash flows whereas a decrease in working capital will increase cashflows. Making this adjustment essentially converts accrual earnings to cash earnings. • You will subtract out the net cashflow resulting from debt. Debt repayments represent cash outflows whereas new debt represents cash inflows. The difference between the two should affect your cashflow to equity. Free Cashflow to Equity (FCFE) = Net Income + Depreciation and Amortization – Capital Expenditures – Change in non-cash working capital – (Debt Repayments – New Debt issues) Note that the net cashflow from debt can be positive if debt issues exceed debt repayments. Conservative analysts who do not want dividends to be funded by net debt issues often compute a conservative version of free cashflow to equity, which ignores net debt cashflows: • 35 Conservative FCFE = Net Income + Depreciation and Amortization – Capital Expenditures – Change in non-cash working capital While you can compute the FCFE using information in the income statement and the balance sheet, you can also obtain it from the statement of cashflows. How would the 21 firms that had payout ratios less than 80% in table 2.4 look like if you compared dividends to FCF...
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