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

Author:
Harold Averkamp, CPA, MBA

Definition of Cash Flow

Cash flow refers to the amounts of cash that a company, investment or project generates. The cash that a company generates is different from the company’s net income (which is measured using the company’s revenues and expenses under the accrual basis of accounting).

A company’s significant cash flows are reported in the statement of cash flows, which is organized as follows:

  • Cash flows from operating activities
  • Cash flows from investing activities
  • Cash flows from financing activities
  • Supplemental disclosures of significant noncash changes in the above sections

Definition of Free Cash Flow

Free cash flow is a metric often used by financial analysts. It is calculated by using two amounts reported on a company’s statement of cash flows:

  • Total/Net amount of cash flows from operating activities, minus
  • Capital expenditures (which is a separate item reported under cash flows from investing activities)

Example of Free Cash Flow

Assume that during the most recent year a corporation had cash flows from operating activities of $300,000 and had capital expenditures of $225,000. The corporation’s free cash flow was $75,000.

Occasionally, dividends paid to stockholders during the recent year are also deducted in calculating free cash flow.

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About the Author

Harold Averkamp

For the past 52 years, Harold Averkamp (CPA, MBA) has
worked as an accounting supervisor, manager, consultant, university instructor, and innovator in teaching accounting online. He is the sole author of all the materials on AccountingCoach.com.

Learn More About Harold

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