What is the free cash flow ratio?

Definition of Free Cash Flow

Free cash flow for a year is an amount (as opposed to a ratio or percentage) usually defined as: net cash provided by operating activities for the year minus the amount of capital expenditures for the year.

Both amounts are taken from a company's cash flow statement (or statement of cash flows).

A variation of the above calculation is to also subtract the dividends to stockholders, if the dividends are viewed as a requirement.

Example of Free Cash Flow

Assume that a company's cash flow statement's first section reports that the company's net cash provided by operating activities was $325,000. In the second section of the cash flow statement (Cash Flow from Investing Activities) there is likely a line item Capital expenditures ($210,000). The amount is reported in parentheses to indicate that it is an outflow or use of cash.

The above amounts indicate that the company's free cash flow for the year was $115,000 ($325,000 - $210,000).

[The amount of dividends paid during the year is reported as a line item within the third section of the cash flow statement, Cash Flows from Financing Activities.]

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