FCF to EBITDA

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What is FCF to EBITDA?

FCF to EBITDA compares Free Cash Flow (FCF) to Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA), showing cash flow efficiency relative to operational earnings.

How do you interpret FCF to EBITDA?

FCF to EBITDA shows the conversion of EBITDA into free cash flow, reflecting the efficiency of cash generation from core operational earnings before non-operational expenses.

How to Calculate FCF to EBITDA?

FCF to EBITDA is calculated by dividing free cash flow by EBITDA.

FCF to EBITDA = Free Cash Flow / EBITDA

where

• Free Cash Flow is the cash generated from operating activities minus capital expenditures.
• EBITDA is earnings before interest, taxes, depreciation, and amortization.

Why is FCF to EBITDA important?

This metric is important because it shows how well a company is managing its operational cash generation relative to its earnings. FCF to EBITDA highlights the company’s ability to maintain liquidity and fund operations, capital expenditures, and debt repayments, making it a key indicator for evaluating the financial flexibility of a business.

How does FCF to EBITDA benefit investors?

Investors use FCF to EBITDA to evaluate the quality of a company's earnings and its ability to generate free cash flow. Companies with a higher ratio are typically more attractive to investors because they have more flexibility to reinvest in growth, pay dividends, or buy back shares without needing to rely on external financing.

Using FCF to EBITDA to Evaluate Stock Performance

FCF to EBITDA is a critical ratio for investors assessing the sustainability of a company's cash flow generation. Companies with a strong FCF to EBITDA ratio are more likely to be able to fund growth initiatives, reduce debt, and provide shareholder returns, which can be attractive to long-term investors.

FAQ about FCF to EBITDA

What is a Good FCF to EBITDA?

A good FCF to EBITDA ratio varies depending on the industry. Capital-intensive industries typically have lower ratios due to higher capital expenditures. Generally, a higher ratio is preferred as it indicates strong cash generation relative to EBITDA.

What Is the Difference Between Metric 1 and Metric 2?

While FCF to EBITDA accounts for capital expenditures (investments in assets like equipment or buildings), Operating Cash Flow to EBITDA focuses only on the cash generated from day-to-day operations before considering capital expenditures. FCF to EBITDA is a more comprehensive measure of how much cash is truly available for discretionary use.

Is it bad to have a negative FCF to EBITDA?

A low FCF to EBITDA ratio could indicate that a company is spending heavily on capital investments or is less efficient in converting earnings into cash. This might not necessarily be negative, especially for companies in growth phases that require significant investment in assets. However, persistently low ratios could signal potential cash flow issues.

What Causes FCF to EBITDA to Increase?

FCF to EBITDA increases when:

Free cash flow increases, either due to higher operational cash generation or lower capital expenditures.
EBITDA improves without a corresponding increase in capital spending.

What are the Limitations of FCF to EBITDA?

FCF to EBITDA does not account for non-operating factors such as interest expenses or taxes, which can affect a company's overall cash flow. Additionally, for companies with high capital expenditures, this ratio may not fully capture the cash constraints they face in the short term.

When should I not use FCF to EBITDA?

This ratio may not be as useful for companies in industries with highly variable capital expenditure requirements or companies that are in their early stages of growth, where capital investment is critical. In such cases, EBITDA-to-Cash Flow or FCF-to-Revenue ratios may provide better insights.

How does FCF to EBITDA compare across industries?

FCF to EBITDA varies widely by industry. Capital-intensive industries, such as utilities or manufacturing, tend to have lower ratios due to higher capital expenditure needs. In contrast, service or technology sectors, which typically have lower capital expenditure requirements, often exhibit higher FCF to EBITDA ratios.

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