A note on free cashflow analysis: Theory versus practice

Abstract

In this note, we compare the methodologies in academic textbooks and the CFA practitioner's guide while demonstrating which academic approach provides the most consistent valuation metric with practitioners. There are many differences when it comes to the items or approaches considered for free cash flow calculations. Some differences, however, are related to the purpose of the calculated free cash flow, for example, the actual free cash flow a company generates during a certain year versus the free cash flow for firm valuation purposes. This note attempts to address this gap and may serve as a guide to faculty as well as practitioners. In what follows, different expositions of the free cash flow model are explored and compared.