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Unlevered Free Cash Flow (UFCF)

Step-by-Step Guide to Understanding Unlevered Free Cash Flow (UFCF)

Last Updated April 14, 2024

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Unlevered Free Cash Flow (UFCF)

How to Calculate Unlevered Free Cash Flow

Unlevered free cash flow (UFCF) represents the cash flow left over for all capital providers, such as debt, equity, and preferred stock investors.

Companies capable of generating more unlevered FCFs possess more discretionary cash, which can be allocated to reinvestments in operations or to fund future growth strategies (e.g. capital expenditure).

In addition, a strong free cash flow profile implies that the company generates sufficient cash to meet interest payments on time and repay the debt principal on the date of maturity.

The UFCF metric is often used interchangeably with the term “free cash flow to firm”, reflecting how these cash flows belong to all stakeholders in the company, rather than to only one specific group of capital providers.

Conceptually, unlevered free cash flow is the cash available to all stakeholders – e.g. debt lenders, preferred stockholders, and common shareholders – which was generated from its core recurring operations and after accounting for all necessary operating expenses and the purchase of fixed assets (i.e. capital expenditures).

By intentionally neglecting the capital structure of the company – i.e. the company’s total debt load – more practical comparisons of industry peers of different sizes and capitalizations are feasible.

There are numerous ways to calculate unlevered free cash flow, but the most common approach is the following four steps:

  • Step 1 ➝ Calculate Net Operating Profit After Tax (NOPAT)
  • Step 2 ➝ Adjust for Non-Cash Items, e.g. Depreciation and Amortization (D&A)
  • Step 3 ➝ Subtract Capital Expenditures (Capex)
  • Step 4 ➝ Subtract Increase in the Change in Net Working Capital (NWC)

Unlevered Free Cash Flow Formula

The formula for calculating unlevered free cash flow (UFCF) is NOPAT plus D&A, subtracted by increase in net working capital (NWC) and Capex.

Unlevered Free Cash Flow = NOPAT + Depreciation and AmortizationIncrease in Net Working Capital (NWC)Capital Expenditures

NOPAT, or “EBIAT”, is a company’s hypothetical after-tax operating income (EBIT) if its capital structure carried no debt at all.

  • NOPAT = EBIT × (1 – Tax Rate)

The removal of the effects of financing decisions and the capital structures results in more useful comparisons among industry peers (i.e. “apples to apples”), as the discretionary decisions surrounding capital structure decisions and reliance on leverage could otherwise significantly skew comp sets.

Depreciation and amortization (D&A) each represent non-cash add backs on the cash flow statement, i.e. no real cash outflow occurred. While depreciation reduces the carrying value of fixed assets (PP&E) across its useful life assumption, amortization reduces the value of intangible assets.

Calculating the change in net working capital (NWC) is an area where mistakes often occur.

  • Increase in Δ in NWC → Less UFCF
  • Decrease in Δ in NWC → More UFCF

If the change in NWC increases, UFCF declines because it represents an “outflow” of cash.

For instance, if a company’s accounts receivable balance increased year-over-year (YoY), the company is owed more cash payments from customers who paid using credit. But if the change in NWC decreases, UFCF increases because it represents an “inflow” of cash.

Returning to our example involving accounts receivables, a decline in A/R indicates that the company has collected the owed cash payment from its customers that paid on credit.*

The final step is to subtract capital expenditures (capex), which represents the purchase of fixed assets with useful lives in excess of twelve months, i.e. long-term investments such as factories, machinery, buildings, and equipment.

The reason Capex is deducted in the formula is that it is a core part of the company’s business model and should be considered a recurring expense, because it is required for the continued generation of FCFs.

Forecasting Unlevered FCFs in a DCF Model

Unlevered free cash flow corresponds to enterprise value, i.e. the value of a company’s core operations to all capital providers.

In practice, a company’s unlevered free cash flow is most often projected as part of creating a DCF valuation model.

The basis of the DCF model states that the valuation of a company is worth the sum of its future cash flows discounted to the present date.

  • Unlevered FCFs: In an unlevered DCF analysis – which is more commonly used – the free cash flows (FCFs) projected are unlevered to arrive at the enterprise value (TEV).
  • WACC: In an unlevered DCF analysis, a company’s UFCFs are discounted to the present date using the weighted average cost of capital (WACC), which also represents all stakeholders in a company.
  • Stakeholders: When forecasting a company’s unlevered FCFs, the items reflected must be applicable to all stakeholders and be a recurring component of a company’s core operations.

Learn More → Enterprise Value Quick Primer

Unlevered Free Cash Flow vs. Levered Free Cash Flow

The difference between unlevered FCF and levered FCF is the capital providers represented.

  • Unlevered Free Cash Flow → Unlevered FCF is attributable to all stakeholders in a company, whereas levered FCF is only representative of common shareholders. In other words, the levered free cash flow represents the residual cash remaining once all debt payments, such as interest, have been deducted. Unlike levered free cash flow or free cash flow to equity (FCFE), the UFCF metric is unlevered, which means the company’s debt burden is not taken into account.
  • Levered Free Cash Flow → Contrary to an unlevered DCF, the output of a levered DCF is the company’s equity value as opposed to the enterprise value. Moreover, the appropriate discount rate in a levered DCF is the cost of equity (ke) instead of WACC, i.e. cost of equity and levered free cash flow are each specific to common shareholders.

Unlevered Free Cash Flow Calculator

We’ll now move on to a modeling exercise, which you can access by filling out the form below.


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Unlevered Free Cash Flow Calculation Example

Suppose a company generated a total of $250 million in EBIT throughout fiscal year 2021.

If we assume a tax rate of 26%, the tax expense is $65 million, which we’ll deduct from EBIT to calculate $185 million for NOPAT.

  • NOPAT = $250 million × (1 – 26%) = $185 million

Starting from NOPAT, the following three adjustments must then be made:

  1. D&A = $20 million
  2. Capex = –$40 million
  3. Increase in NWC = –$5 million

Upon entering those inputs into our UFCF formula, we arrive at $160 million as our hypothetical company’s unlevered free cash flow for the year.

  • Unlevered Free Cash Flow = $185 million + $20 million – $40 million – $5 million = $160 million

Unlevered Free Cash Flow Calculator

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Jo L
January 9, 2024 8:24 pm

If FCF is unlevered doesn’t that mean it relates to the cash available to only Equity holders as its eliminating the debt aspect. The term “unlevered” means not funded by debt correct where as “levered” is usage of debt Therefore in calculating UFCF shouldn’t you also subtract interest to eliminate… Read more »

Last edited 4 months ago by Jo L
Brad Barlow
January 10, 2024 1:50 pm
Reply to  Jo L

Hi, Jo, Good question, and this is a common misconception. Levered actually means the cash flows available to equity after the debt holders have been paid off, thus the cash flows are ‘levered’ in the sense that they have been impacted by leverage. Unlevered cash flows are capital structure neutral,… Read more »

Raekwon Williams
April 11, 2024 4:58 pm
Reply to  Brad Barlow

Hello Brad, I need your clarification on a question. On my exam i have a question that states the following “Which of these is not included in unlevered cash flow?’ Answers: A. Interest expense B. Capital Expenditures C. Real Estate Taxes D. Capital Reserves. This question is very confusing because… Read more »

Brad Barlow
April 12, 2024 1:24 pm

Hi, Raekwon, This is not one of our exams, correct? If not, I cannot say for sure what they are aiming at in their question. However, we can say with confidence that interest expense is NOT part of UFCF, whereas taxes are part of UFCF, although they are calculated based… Read more »

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