What is Free Cash Flow to Debt?

1256 reads · Last updated: December 5, 2024

Free Cash Flow to Debt, also known as Levered Free Cash Flow, is the cash flow remaining after a company has paid for its operating expenses, capital expenditures, and all debt payments (including interest and principal repayments). It measures the company's ability to generate free cash flow after meeting all financial obligations, reflecting the financial health and debt-servicing capability of the enterprise. This metric is used to assess a company's debt burden, investment capacity, and financial flexibility. The calculation formula is:Free Cash Flow to Debt=Operating Cash Flow−Capital Expenditures−Debt Payments (Interest + Principal)This indicator is crucial for investors and creditors as it shows the actual cash flow situation of a company after fulfilling its debt obligations.

Definition

Free Cash Flow to Debt is the cash flow remaining after a company has covered its operating costs, capital expenditures, and all debt payments, including interest and principal repayments. It measures the free cash flow a company can generate after fulfilling all its financial obligations, reflecting the company's financial health and debt repayment capacity. This metric is often used to assess a company's debt pressure, investment capacity, and financial flexibility. The formula is:

Free Cash Flow to Debt = Operating Cash Flow − Capital Expenditures − Debt Payments (Interest + Principal)

Origin

The concept of Free Cash Flow to Debt developed as corporate financial management became more complex, particularly in the late 20th century, when companies began to focus more on cash flow management and debt repayment capacity. With the development of capital markets, investors and creditors needed more precise metrics to evaluate a company's financial health and debt repayment ability, leading to the widespread adoption of this concept.

Categories and Features

Free Cash Flow to Debt can be categorized based on the industry and size of the company. In capital-intensive industries like manufacturing and infrastructure, Free Cash Flow to Debt might be lower due to high capital expenditures. Conversely, service industries might have higher Free Cash Flow to Debt due to lower capital expenditures. The main feature of Free Cash Flow to Debt is its ability to directly reflect a company's financial flexibility and debt repayment capacity, aiding investors and management in making more informed financial decisions.

Case Studies

Case Study 1: Apple Inc. reported a significant increase in its Free Cash Flow to Debt in the fiscal year 2020, primarily due to strong operating cash flow and relatively low capital expenditures. This allowed Apple to continue stock buybacks and dividend payments while repaying debt, demonstrating its strong financial health.

Case Study 2: Tesla, Inc. faced high capital expenditures and debt repayment pressures in 2019, leading to negative Free Cash Flow to Debt. However, with improved production efficiency and sales growth, Tesla achieved positive Free Cash Flow to Debt in 2021, enhancing its financial flexibility.

Common Issues

Common issues investors face when using Free Cash Flow to Debt include accurately forecasting future capital expenditures and debt payments. Additionally, negative Free Cash Flow to Debt does not necessarily indicate poor financial health, as it may result from large-scale investments aimed at future growth.

Suggested for You

Refresh
buzzwords icon
Liquidity Risk
Liquidity risk refers to the potential difficulty an entity may face in meeting its short-term financial obligations due to an inability to convert assets into cash without incurring a substantial loss. This risk is inherent in both financial institutions and corporations, significantly impacting their operational and financial stability.Liquidity risk is often characterized by two main aspects: market liquidity risk and funding liquidity risk. Market liquidity risk is associated with an entity's inability to execute transactions at prevailing market prices due to insufficient market depth or disruptions. On the other hand, funding liquidity risk pertains to the inability to obtain sufficient funding to meet financial obligations.Liquidity risk is not confined to any particular sector, as it is an important consideration across banks, financial institutions, corporations, and even some individual investors. For banks and financial institutions, liquidity risk management is underscored by regulatory frameworks that mandate certain liquidity standards to ensure financial stability and protect depositor interests. Corporations, too, need to be vigilant in managing liquidity risk to ensure they have adequate cash or credit lines to meet their operational and financial commitments. The ability to manage liquidity risk is essential for ensuring it has enough cash on hand to meet its short term needs and obligations.
2 K learned

Liquidity Risk

Liquidity risk refers to the potential difficulty an entity may face in meeting its short-term financial obligations due to an inability to convert assets into cash without incurring a substantial loss. This risk is inherent in both financial institutions and corporations, significantly impacting their operational and financial stability.Liquidity risk is often characterized by two main aspects: market liquidity risk and funding liquidity risk. Market liquidity risk is associated with an entity's inability to execute transactions at prevailing market prices due to insufficient market depth or disruptions. On the other hand, funding liquidity risk pertains to the inability to obtain sufficient funding to meet financial obligations.Liquidity risk is not confined to any particular sector, as it is an important consideration across banks, financial institutions, corporations, and even some individual investors. For banks and financial institutions, liquidity risk management is underscored by regulatory frameworks that mandate certain liquidity standards to ensure financial stability and protect depositor interests. Corporations, too, need to be vigilant in managing liquidity risk to ensure they have adequate cash or credit lines to meet their operational and financial commitments. The ability to manage liquidity risk is essential for ensuring it has enough cash on hand to meet its short term needs and obligations.

buzzwords icon
Zero-Proof Bookkeeping
Zero-proof bookkeeping is a manual bookkeeping procedure used in accounting in which posted entries are systematically subtracted from an ending balance to check for errors. In zero-proof bookkeeping, a balance of zero when all entries have been subtracted is proof that the accounting entries have been entered correctly. In this way, this practice is quite similar to keeping a balance sheet, which is a common financial statement issued by firms that balances assets with liabilities and shareholder's equity - such that subtracting the left side from the right side of the balance sheet results in a sum of zero.Zero-proof bookkeeping is employed as part of a double-entry bookkeeping system, where credits (liabilities) and debits (assets) are kept track of simultaneously.
797 learned

Zero-Proof Bookkeeping

Zero-proof bookkeeping is a manual bookkeeping procedure used in accounting in which posted entries are systematically subtracted from an ending balance to check for errors. In zero-proof bookkeeping, a balance of zero when all entries have been subtracted is proof that the accounting entries have been entered correctly. In this way, this practice is quite similar to keeping a balance sheet, which is a common financial statement issued by firms that balances assets with liabilities and shareholder's equity - such that subtracting the left side from the right side of the balance sheet results in a sum of zero.Zero-proof bookkeeping is employed as part of a double-entry bookkeeping system, where credits (liabilities) and debits (assets) are kept track of simultaneously.

buzzwords icon
Zero-Gap Condition
A zero-gap condition exists when a financial institution's interest-rate-sensitive assets and liabilities are in perfect balance for a given maturity. The condition derives its name from the fact that the duration gap—or the difference in the sensitivity of an institution's assets and liabilities to changes in interest rates—is exactly zero. Under this condition, a change in interest rates will not create any surplus or shortfall for the company, since the firm is immunized to its interest rate risk for a given maturity.
628 learned

Zero-Gap Condition

A zero-gap condition exists when a financial institution's interest-rate-sensitive assets and liabilities are in perfect balance for a given maturity. The condition derives its name from the fact that the duration gap—or the difference in the sensitivity of an institution's assets and liabilities to changes in interest rates—is exactly zero. Under this condition, a change in interest rates will not create any surplus or shortfall for the company, since the firm is immunized to its interest rate risk for a given maturity.

buzzwords icon
Like-Kind Exchange
A like-kind exchange is a tax-deferred transaction that allows for the disposal of an asset and the acquisition of another similar asset without generating a capital gains tax liability from the sale of the first asset.Until the passage of tax legislation in December 2017, that could have included the exchange of one business for another—or one piece of tangible property, such as artwork or heavy equipment, for another. After 2017, a like-kind exchange applies only to the exchange of a business or real estate investment property for another property.
766 learned

Like-Kind Exchange

A like-kind exchange is a tax-deferred transaction that allows for the disposal of an asset and the acquisition of another similar asset without generating a capital gains tax liability from the sale of the first asset.Until the passage of tax legislation in December 2017, that could have included the exchange of one business for another—or one piece of tangible property, such as artwork or heavy equipment, for another. After 2017, a like-kind exchange applies only to the exchange of a business or real estate investment property for another property.

buzzwords icon
Identifiable Asset
An identifiable asset is an asset whose commercial or fair value can be measured at a given point in time, and which is expected to provide a future benefit to the company. These assets are an important consideration in the context of mergers and acquisitions.Because not all assets on a company's balance sheet are able to be quickly and accurately valued at a point in time, only those which are may be classified as identifiable. Examples include cash, short-term liquid investments, property, inventories, and equipment, among others.Identifiable assets may be contrasted with goodwill.
627 learned

Identifiable Asset

An identifiable asset is an asset whose commercial or fair value can be measured at a given point in time, and which is expected to provide a future benefit to the company. These assets are an important consideration in the context of mergers and acquisitions.Because not all assets on a company's balance sheet are able to be quickly and accurately valued at a point in time, only those which are may be classified as identifiable. Examples include cash, short-term liquid investments, property, inventories, and equipment, among others.Identifiable assets may be contrasted with goodwill.

buzzwords icon
Equity Multiplier
The term equity multiplier refers to a risk indicator that measures the portion of a company’s assets that is financed by shareholders' equity rather than by debt. The equity multiplier is calculated by dividing a company's total asset value by the total equity held in the company's stock. A high equity multiplier indicates that a company is using a high amount of debt to finance its assets. A low equity multiplier means that the company has less reliance on debt. The equity multiplier is also known as the leverage ratio or financial leverage ratio and is one of three ratios used in the DuPont analysis.
1 K learned

Equity Multiplier

The term equity multiplier refers to a risk indicator that measures the portion of a company’s assets that is financed by shareholders' equity rather than by debt. The equity multiplier is calculated by dividing a company's total asset value by the total equity held in the company's stock. A high equity multiplier indicates that a company is using a high amount of debt to finance its assets. A low equity multiplier means that the company has less reliance on debt. The equity multiplier is also known as the leverage ratio or financial leverage ratio and is one of three ratios used in the DuPont analysis.

© 2026 Longbridge｜Disclaimer