Question

Free cash flow method gives importance to both anchor and extra value. Do you agree?

Answer 1

Free cash flow determines the firm’s potential and capacity to generate more money after taking off the amount that takes for the working capital and money required for the operations. This gives us an idea on how much profit we can measure after taking off non-cash expenses like interest payments, spending on assets and other industrial equipment’s, borrowings etc.

The money which we address as free cash can be used to repay the borrowers, or to pay dividends on profit shared to the investors, or can be paid as interest to the investors. This shows us the ability or inability to meet the credit taken from the suppliers and firm capacity to generate profits.

Free cash flows observed over a period will show us how much the company is stable in its extra cash generation. This shows the security and stability of the company. If the free cash flow drops in a year, it can impact the inventories to go down, also previous cash will be used to meet working capital requirements which might lower the cash in hand. Shareholders may not receive the expected dividends. Hence, Free cash flows are given much importance to its maintenance of stability and extra value.