Which expression correctly defines FCFE (free cash flow to equity)?

Which expression correctly defines FCFE (free cash flow to equity)?

• A. FCFE = Net Income + Depreciation - CapEx - ΔNWC
• B. FCFE = Net Income + Depreciation - CapEx - ΔNWC + Net new borrowing
• C. FCFE = Net Income + Depreciation + CapEx - ΔNWC + Net new borrowing
• D. FCFE = Net Income - Depreciation - CapEx - ΔNWC + Net new borrowing

Answer: (B)

Free cash flow to equity shows the cash that can be paid to shareholders after funding the firm’s ongoing operations and investments, and after accounting for how the firm finances itself. Start from net income, then add back non-cash charges like depreciation since they reduce reported income but don’t consume cash. Subtract cash outlays for capital expenditures to reflect the funds actually invested in long-term assets. Subtract the change in net working capital because an increase in working capital uses cash (a largerΔNWC absorbs cash, a negative ΔNWC would free cash). Finally, add net new borrowing, since new debt issued (minus repayments) provides additional cash that can be returned to equity holders. This combination—Net Income plus Depreciation minus CapEx minus ΔNWC plus Net new borrowing—captures how operating performance, investment needs, and financing choices affect the cash available to equity investors.

Free cash flow to equity shows the cash that can be paid to shareholders after funding the firm’s ongoing operations and investments, and after accounting for how the firm finances itself. Start from net income, then add back non-cash charges like depreciation since they reduce reported income but don’t consume cash. Subtract cash outlays for capital expenditures to reflect the funds actually invested in long-term assets. Subtract the change in net working capital because an increase in working capital uses cash (a largerΔNWC absorbs cash, a negative ΔNWC would free cash). Finally, add net new borrowing, since new debt issued (minus repayments) provides additional cash that can be returned to equity holders.

This combination—Net Income plus Depreciation minus CapEx minus ΔNWC plus Net new borrowing—captures how operating performance, investment needs, and financing choices affect the cash available to equity investors.