The Daily Technical #18: What is the difference between unlevered FCF (FCFF) and levered FCF (FCFE)?

Good morning. Welcome to the 18th edition of The Daily Technical. You’re here for one reason so let’s dive in.

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OVERVIEW OF YESTERDAY’S QUESTION
Could you give context on what assets, liabilities, and equity each represent?

Here's how you can structure your answer clearly and logically:

1. Assets:

• Define: Start by explaining that assets are resources with economic value expected to bring future benefits.

• Examples: Mention common types like cash, marketable securities, accounts receivable, and Property, Plant, and Equipment (PP&E).

• Economic Impact: Point out that assets typically result in cash inflows either by being sold or via their utility over time.

2. Liabilities:

• Define: Describe liabilities as unsettled obligations that will require future payments.

• Examples: Include debts and payments owed to suppliers or vendors.

• Economic Impact: Highlight that liabilities lead to future cash outflows as the company settles these obligations.

3. Equity:

• Define: Clarify that equity represents the capital invested in the business, accounting for both initial funds and accumulated retained earnings.

• Sources: Explain that this can be self-funded or come from institutional investors.

• Economic Impact: Note that equity signifies ownership and internal funding without a direct obligation of repayment.

Common Mistakes

1. Confusing Assets with Liabilities: Remember, assets bring in money, while liabilities require you to pay money in the future.

2. Overlooking Equity as a Source of Funding: Emphasize that equity is crucial for understanding the internal funding sources of the business.

3. Ignoring the Role of Retained Earnings: Always include that retained earnings are accumulated profits reinvested back into the company.

Key Takeaways / TLDR

• Assets: Resources with future economic benefits, leading to cash inflows.

• Liabilities: Future obligations resulting in cash outflows; external funding sources.

• Equity: Internal funding, including initial investments and retained earnings.

TODAY’S QUESTION
What is the difference between unlevered FCF (FCFF) and levered FCF (FCFE)?

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