What is Free Cash Flow?

Free cash flow explained and how to calculate it.

Free cash flow is the cash a company has left over after all the cash it needs to pay for its operations and the cash needed to pay for the maintenance of its assets have been taken away.

It tells a company how much money it is generating from its business after all the costs required to remain in business are taken away.

How to calculate free cash flow

The easiest way to calculate free cash flow is to take away the Capital Expenditure of a business from its Operating Cash Flow

Free cash flow = Operating Cash Flow – Capital Expenditures

Where Operational Cash Flow = Revenue from Operational activities – Costs of the Operational Activities

And Capital Expenditures = money a business spends to purchase, maintain or improve fixed assets such as land, buildings and equipment.

What is the difference between levered and unlevered free cash flow?

Levered free cash flow is the free cash flow left over after subtracting any interest payments (debt payments) from cash flow, it is basically a company’s cash flow once all of its financial obligations have been met and it appears on the balance sheet.

Unlevered free cash flow is the free cash flow a business has available to it before it meets its financial obligations so its figure still includes cash that will be needed to pay interests and debt. Unlevered free cash flow also appears on the balance sheet.

So the difference between levered and unlevered free cash flow is that unlevered free cash flow is what you have before financial obligations have been met (levered free cash flow)

What are the advantages and disadvantages of free cash flow

If a company has free cash flow it means that it has enough cash on hand to pay for all its monthly bills and also has cash left over. The benefit of this is that the cash can be used to expand the business if it chooses to or to pay dividends or interest to its investors or just to save it. A company with a rising amount of free cash flow each month is an indicator to investors that the business is healthy and has the ability to produce cash and profits.

It has limitations though and if investors are looking only to the free cash flow figure to determine whether a company is a worthwhile investment they may miss other indicators that will show a more accurate health of the company’s future profitability.

The amount of free cash flow in a company can be affected in a number of ways that make it difficult to assume that it accurately reflects the profitability of the business. For example if you are a new company that is actively growing and investing in new technologies and equipment your free cash flow may be low even though your business is doing well.

The type of business is important. If you are a manufacturing business your free cash flow cannot be compared to that of a financial business or a banking operation as the latter companies don’t need to invest in equipment in the same way. It is therefore wise to not just consider the free cash flow figure when making decisions about a company’s future success.

There is currently no standard calculation for free cash flow so accounts can be manipulated to alter the free cash flow figure.

Have you thought about Invoice Finance as a cash flow solution for your business?

Invoice finance allows you to release cash quickly from your unpaid invoices.

As your lender, we can release up to 90% of your invoices within 24 hours. On payment of the invoice from your customers, we will then release the final amount minus any fees and charges. There are different types of invoice financing options available to businesses depending on the situation and the level of control they require in collecting unpaid invoices.

We are an invoice financing company who offer a solution whereby payments are collected on your behalf managed by our team of expert credit controllers so you can focus on running your business. Our Confidential Invoice Discounting solution is offered to businesses who want to maintain their own credit control processes, therefore this remains strictly confidential so your customers are unaware of our involvement.

Get in touch

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The benefits of invoice finance companies such as Novuna Business cash flow

  • Boost your cash flow without having to wait up to 120 days for your customers to pay you

  • Release up to 90% of the invoice straight away, and the final 10% when the invoice is settled

  • Access funds within 24 hours from initial appointment with our revolutionary digital onboarding process

  • Benefit from our in-house credit control processes, allowing you to focus on running your business, instead of chasing clients for payment

  • 6 month trial period followed by a rolling contract

Want to understand more Cash Flow Finance terms?

Our Cash Flow Resource Hub has been set up to help SME's with cash flow finance advice, tips and resources to help with their cash flow position.

We explore ways you can begin improving your cash flow situation and start getting your business on track to positive cash flow.

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