Free Cash Flow to Equity (FCFE)

Since we are interested in the intrinsic value of a stock, we need to calculate how much of the FCFF could be paid as an economic dividend to shareholders. That is, we are interested in checking which of the two possible cases a stock falls into:

Are cash dividends and treasury stock covered by free cash flow to equity or not?

If the firm's dividend policy is covered by FCFE this is clearly more desirable than if it is not. For the latter this implies that the firm is funding its dividends from either new debt or from existing capital. As a result, assessing free cash flow to equity is important when evaluating the financing and dividend activities of a firm.

From the above, FCFE is designed to measure the dividend a firm could pay out to equity holders as opposed to the dividend the firm actually pays out to its equity holders. FCFE can be greater than, equal to, or less than FCFF and this relationship is given by:

Net Borrowing is new debt issued minus existing debt repaid. This information is usually obtained from the Consolidated Statement of Cash Flows, which provides “Cash Flows from Financing Activities.» However, Cash Flows from Financing Activities needs to be further adjusted to compute the net effects from debt related activities to exclude net effects from equity related activities.

Приложение 3. Методика формирования баланса и отчета о прибылях и убытках в стандартах МСФО (IAS) – Россия

Формирование баланса в стандартах МСФО (IAS) [35]