Which formula correctly represents levered free cash flow?

Which formula correctly represents levered free cash flow?

• A. Net income + capex - D&A + increase in NWC
• B. Net income - capex + D&A - increase NWC
• C. Net income - working capital changes - CAPEX
• D. Operating cash flow - capex + net debt issued

Answer: (B)

Levered free cash flow shows the cash that's left for equity holders after the company has met its investing and working capital needs. Start from net income, then add back non-cash expenses like depreciation and amortization, since they reduce net income but don’t use cash. Subtract cash outflows for capital expenditures, and subtract the cash tied up in increases in working capital, since tying up more resources reduces cash available to shareholders. So the correct form is net income plus D&A minus capex minus the increase in net working capital. This is the same as net income minus capex plus D&A minus the increase in NWC, which matches the required expression. Why the other forms don’t fit: one form reverses the signs for D&A and capex, treating a non-cash expense as a cash outflow and treating capex as a cash inflow. Another form omits the D&A add-back, undercounting the cash that isn’t tied up in non-cash charges. The last form uses operating cash flow as the base and adds net debt issued, which moves into financing activity territory and isn’t the standard levered free cash flow formula used to represent cash available to equity after all obligations.

Levered free cash flow shows the cash that's left for equity holders after the company has met its investing and working capital needs. Start from net income, then add back non-cash expenses like depreciation and amortization, since they reduce net income but don’t use cash. Subtract cash outflows for capital expenditures, and subtract the cash tied up in increases in working capital, since tying up more resources reduces cash available to shareholders.

So the correct form is net income plus D&A minus capex minus the increase in net working capital. This is the same as net income minus capex plus D&A minus the increase in NWC, which matches the required expression.

Why the other forms don’t fit: one form reverses the signs for D&A and capex, treating a non-cash expense as a cash outflow and treating capex as a cash inflow. Another form omits the D&A add-back, undercounting the cash that isn’t tied up in non-cash charges. The last form uses operating cash flow as the base and adds net debt issued, which moves into financing activity territory and isn’t the standard levered free cash flow formula used to represent cash available to equity after all obligations.