Free Cash Flow: A Powerful Decision-Making Metric compares the free cash flow metric with other common investment strategies and demonstrates its superiority for measuring shareholder value creation. Learn how to use free cash flow effectively and maximize shareholder value by evaluating both capital budgeting and acquisition opportunities. Additional topics include financial drivers - or component building blocks - of free cash flow, frameworks for designing an incentive compensation program linked to free cash flow, and the interrelationship between cost of capital and return on investment.
Upon successful completion of this course, participants will be able to:
- Identify why the traditional assessment of a business by net income or loss is inadequate for determining value creation.
- Define free cash flow.
- Recognize the difference between the free cash flow framework and the traditional accounting framework.
- Calculate net operating profit after taxes and define net investment.
- Identify the connection between free cash flow and value creation.
- Identify how to enhance free cash flow over the long term and interpret the effects various expenses have on the free cash flow calculation.
- Recognize the steps to adjust the income statement and balance sheet to calculate free cash flow.
- Recognize the usefulness of disaggregating the free cash flow metric in the maximization of free cash flow.
- Identify measurements used to evaluate and manage performance of free cash flow drivers and explain how to use them.
- Recognize the cost of capital and its variations.
- Calculate after-tax interest expense.
- Cite the relationship of the cost of equity capital to a stock's beta.
- Identify the market risk premium to the market portfolio return.
- Calculate an investment's cost of equity according to the capital asset pricing model.
- Calculate a company's weighted average cost of capital.
- Identify factors to be considered when performing a proper capital budgeting analysis.
- Calculate net present value of free cash flow with no terminal value.
- Calculate net present value of free cash flow using the cash flow perpetuity method and the constant growth method.
- Recognize interim value creation results of free cash flow analysis.
- Identify value creation efforts using the modified free cash flow approach.
- Calculate modified free cash flow and market value by using the modified free cash flow method.
- Identify negative modified free cash flow for strategic investments.
- Recognize acquisition costs and benefits.
- Calculate the stand-alone value of a possible acquisition.
- Identify bid value of an acquisition.
- Identify goals of and maximize the performance standard with incentive compensation plans.
- Recognize various incentive plans and compare them to one another.
- Calculate bonus bank transactions.
- Recognize the level of integration and calculation of the free cash flow metric for successful implementation.
- Cite the importance of communication and training in the implementation of the free cash flow metric.
Table of Contents
Chapter 1 – Introduction to Free Cash Flow
Traditional Financial Management Framework
Other Popular Performance Measures and Their Shortcomings
Free Cash Flow
Free Cash Flow (FCF) = Net Operating Profit after Taxes (NOPAT) – Change in Net Investment
Free Cash Flow (FCF) = After Tax Interest Expense + Debt Repayment + Dividends + Share Repurchase + Change in Marketable Securities
Free Cash Flow Framework
Free Cash Flow (More Detail on the Calculation)
Relationship between Market Value and Free Cash Flow Example
Relationship between Return on Investment and Cost of Capital
Optimal Investment Horizon
How to Enhance Free Cash Flow over the Long Term
Financial Statement Adjustments
Chapter 1 – Review Questions
Chapter 2 – Financial Drivers
A Company Must Optimize Performance of Free Cash Flow Drivers at the Operating Level
Free Cash Flow Can be Operationalized by Understanding the Components…
…And Developing Financial and Nonfinancial Measurements to Evaluate and Manage Performance
To Set Appropriate Goals, Management Must Identify How Measurements Link to One Another…
Chapter 2 – Review Questions
Chapter 3 – Cost of Capital
Cost of Debt Capital
Cost of Equity Capital
Weighted Average Cost of Capital
Cost of Capital Pitfalls
Chapter 3 – Review Questions
Chapter 4 – Free Cash Flow and Capital Budgeting
Free Cash Flow Formulas for Capital Budgeting
Terminal Value: Constant Growth Method
Chapter 4 – Review Questions
Chapter 5 – Free Cash Flow and Interim Financial Results
Free Cash Flow Analysis: Example I
Free Cash Flow Analysis: Example II
Modified Free Cash Flow
FCF versus Modified FCF
FCF versus Modified FCF: Scenario I
FCF versus Modified FCF: Scenario II
FCF versus Modified FCF: Scenario III
Relationship between Market Value and Modified Free Cash Flow
Chapter 5 – Review Questions
Chapter 6 – Free Cash Flow and Acquisition Analysis
Historical Perspective on Acquisitions
Free Cash Flow Acquisition Analysis
Free Cash Flow Acquisition Framework
Step 1: Analysis of Value Received
Step 1: Stand-Alone Value
Step 1: Synergies
Step 2: Analysis of Purchase Price
Impact of Purchase Price on Free Cash Flow
Chapter 6 – Review Questions
Chapter 7 – Free Cash Flow and Incentive Compensation
Typical Incentive Compensation Plan
Incentive Compensation: A Better Solution
Possible Free Cash Flow-Based Incentive Programs
Free Cash Flow Bonus Plan
Components of Incentive Compensation Plan
Incentive Plan: Component Parts
Sharing Percentage and Risk
Sample Bonus Bank
Chapter 7 – Review Questions
Chapter 8 – Implementation Issues
Specific Implementation Issues
Chapter 8 – Review Questions
Review Question Answers and Rationales
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