Hi guys,
Quick question, is this a typo from Schwezer notes? Shouldn’t it be cash interest paid be -500 in the calculation of FCFF? They have written it as positive in the formula below. Page 97 book 3.
Thanks in advance!
Free Cash Flow to the Firm represents the cash that is available to all providers of capital, including debt-holders and equity owners.
For FCFF, you add back the Cash Interest Paid (after tax shield adjustment) back to CFO because FCFF is supposed to be cash available before the company pays back its providers of capital.
In FCFE (Free Cash Flow to Equity), you will be taking that Interest Paid back out, as well as the Net Proceeds from Borrowing because FCFE is only the cash available to equity owners.
Hi AKRapoza,
But it is stated “cash interest paid (500)” this gets me very confused. Can you please explain why we ignore the minus sign here?
There are two things going on here.
First thing is the interest expense of $1,000. That is an income statement item, and it is a use of cash.
Second thing is the increase in interest payable. That is a balance sheet item, and it is a source of cash (any increase in payables is considered a source of cash because the expense was not paid, but has accrued instead).
So, adding both up, we have a net of $500 paid to interest.
This is a cash item that was already paid to debtholders, but FCFF is supposed to take that out so that it can account for cash available to both debtholders and equity holders.
Sorry but I still don’t get it. You write that " So, adding both up, we have a net of $500 paid to interest." so that means it should be -500. Really confused here.
Does anyone on the forum know this?
The amount of interest paid is positive. The firm pays +500 in interest.
If they had paid -500 in interest, they would have received 500 rather than paid it.
In the cash flow statement, amounts received are added to the total. Amounts paid are subtracted from the total.
imagine a bank statement where you deposit 200 and withdraw 100
balance b/f 1000
deposit +200
withdrawal -100
balance c/f 1100
it shows the withdrawal as negative, but that doesn’t mean you withdrew -100, it means you withdrew +100 and it’s written as negative because it’s a withdrawal
Yes but if we look at the formula it says (cash interest paid) which gets me a bit confused because I want to straight forward just plug in the value -500 but then I guess I have to be cautios and think about this carefully when it comes to formulas regarding the cash flows.
I think I need more practice but thanks!