I know that we add back interest expense net of tax when calculating FCFF, but I find it hard to understand how FCFF is unaffected by issuing debt (especially in later years due to increased interest expense tax burden). This is from the Schweser AM Mock 5:
If BioTLabs establishes a dividend and issues additional debt, the most likely effect on FCFF will be:
A)
no effect.
B)
a decrease in FCFF.
C)
an increase in FCFF.
Your answer: B was incorrect. The correct answer was A) no effect.
If BioTLab established a dividend there would no impact on either FCFF or FCFE. Changing the company capital structure by increasing debt will not impact FCFF, although it will initially increase FCFE by the amount of debt issued and then reduce FCFE thereafter by the after-tax interest expense.
Won’t FCFF be lower in later years?
If BioTLabs establishes a dividend and issues additional debt, the most likely effect on FCFF will be:
A)
no effect.
B)
a decrease in FCFF.
C)
an increase in FCFF.
Your answer: B was incorrect. The correct answer was A) no effect.
If BioTLab established a dividend there would no impact on either FCFF or FCFE. Changing the company capital structure by increasing debt will not impact FCFF, although it will initially increase FCFE by the amount of debt issued and then reduce FCFE thereafter by the after-tax interest expense.
Won’t FCFF be lower in later years?