FCFF/FCFE Question

[PassOrNothing]

For the question below, could you explain how each answer affects FCFF and FCFE? Thanks in advance!
Q) Assuming at a tax rate of 30%, a $100 increase in which of the following would NOT impact FCFF and decrease FCFE by $70?
A) Notes Payable
B) Interest expense
C) Accounts Payable
—
For example, I don’t see how a $100 increase in NP will have NO impact on FCFF because isn’t NP part of CFO? (i.e. if there is an increase of $100 in notes payable, then CFO would increase by $100 because that is money not paying down notes payable and thereby saving cash; as a result, since CFO is part of FCFF, I would think FCFF increases by $100).

 

[CMLSML]

Interest expense - choice B.
Notes payable would increase FCFE by 100 not 70!
Accounts payable would increase both FCFF and FCFE by 100

 

[suspense]

PassOrNothing wrote:
For the question below, could you explain how each answer affects FCFF and FCFE? Thanks in advance!
Q) Assuming at a tax rate of 30%, a $100 increase in which of the following would NOT impact FCFF and decrease FCFE by $70?
A) Notes Payable
B) Interest expense
C) Accounts Payable
—
For example, I don’t see how a $100 increase in NP will have NO impact on FCFF because isn’t NP part of CFO? (i.e. if there is an increase of $100 in notes payable, then CFO would increase by $100 because that is money not paying down notes payable and thereby saving cash; as a result, since CFO is part of FCFF, I would think FCFF increases by $100).

The after tax interest is added back to NI when calculating FCFF but not added back when calculating FCFE

 

[busprof]

PassOrNothing wrote:
For example, I don’t see how a $100 increase in NP will have NO impact on FCFF because isn’t NP part of CFO? (i.e. if there is an increase of $100 in notes payable, then CFO would increase by $100 because that is money not paying down notes payable and thereby saving cash; as a result, since CFO is part of FCFF, I would think FCFF increases by $100).

NP is considered a “Financing” cash flow item - it’s included in Current Liabilities, but it’s not an operating account. So, it’s not included in CFO (CFO, like NWC includes only the “operating” Current Assets and Current Liabilities). The change in NP would appear in “net new borrowing”, so it doesn’t appear in the calculation of FCFF – EBIT (1-t) + Depreciation -change in NWC - CAPEX. It would, however increase FCFE by 100, since it would increase Net New Borrowing by 100.

 

[cgy5478]

When I see a FCFF and FCFE item set, I immediately write down the formula. It just makes you life so much easier.
FCFF = CFO + Interest ( 1 - Tax) - CAPEX
= EBIT ( 1 - Tax) + D - WCinv - CAPEX
= EBITDA ( 1 - Tax) +Dt - WCinv - CAPEX
= NI + D - WCinv + Interest ( 1 - Tax) - CAPEX
FCFE = FCFF - Interest ( 1- Tax) + Net Borrowing
Increase in note payable and account payable would decrease WCinv by 100 and therefore increase both FCFF and FCFE by 100.
Interest expense does not impact the FCFF because when calculating for FCFF, you add back the interest expense that was taken out when calcualting NI (interest expense is cash available to the firm).

 

[PassOrNothing]

Thank you for writing the formulas out!!! I see where I made the mistake now.