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Investment appraisal

Forecasting free cash flow

1.1 Free cash flow (FCF)

Cash that is not retained and reinvested in the business is called free
cash flow (FCF).

It represents cash flow available:

 to all the providers of capital of a company

 to pay dividends or finance additional capital projects.

It can be calculated as:

 FCF = Revenue – Costs – Investments

1.2 Use of FCF

A forecast of future FCF is the starting point for all the following
investment appraisal methods:

 net present value (NPV)

 internal rate of return (IRR)

 modified internal rate of return (MIRR)

 discounted payback period

 duration (Macaulay Duration and Modified Duration)

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