Free Cash Flow · 2026-07-07 · 6 min read
Written and reviewed by Project Financial Advisor · FCA · CGMA · ACMA — Chartered Accountant
What Is Free Cash Flow? UFCF vs LFCF Explained Simply
What free cash flow is, how unlevered (UFCF) and levered (LFCF) free cash flow differ, and why investors trust it more than profit. With both formulas.
Free cash flow (FCF) is the cash a business generates after paying its operating costs and taxes and making the investments needed to sustain and grow — the money genuinely left over for the people who fund the business. It is the number investors and lenders trust most, because unlike profit it cannot be shaped by accounting choices: cash either arrived or it didn't. There are two versions, and knowing which one you're looking at matters.
Unlevered free cash flow (UFCF)
Unlevered free cash flow is the cash available to all capital providers — both debt and equity — before any financing is considered. The formula is NOPAT (operating profit after tax) plus depreciation and amortisation, minus capital expenditure, minus the increase in working capital. Because it ignores how the business is financed, UFCF is the input to enterprise-value DCF valuation and the cleanest measure of operating cash generation.
Levered free cash flow (LFCF)
Levered free cash flow is what remains for shareholders after debt is serviced — UFCF minus interest and mandatory debt repayments. LFCF is the cash a company could actually distribute to equity holders, so it matters for dividend capacity and equity returns. The difference between UFCF and LFCF is simply the cost of the company's borrowing.
Why the distinction matters
| Unlevered FCF (UFCF) | Levered FCF (LFCF) | |
|---|---|---|
| Also called | Free cash flow to firm | Free cash flow to equity |
| Relative to debt | Before debt service | After interest & repayments |
| Cash available to | All capital providers | Equity holders only |
| Used for | Enterprise-value DCF | Equity value, dividend capacity |
Value a whole business (enterprise value) with unlevered cash flow; assess returns to shareholders with levered cash flow. Mixing them up — for example discounting levered cash flow at WACC — double-counts the effect of debt and produces the wrong answer. A good model shows the bridge from UFCF to LFCF explicitly, so the effect of financing is transparent.
Why investors prefer FCF
Profit includes non-cash items and timing effects; free cash flow strips them out and shows the money the business actually frees up. A company can be profitable yet cash-negative if it ties up cash in receivables, inventory and CAPEX — which is exactly why free cash flow, not net income, is the number that predicts whether a business can fund itself, pay down debt or return capital.
A common point of confusion
Free cash flow is often muddled with operating cash flow and with net cash movement. Operating cash flow stops after working capital and does not deduct CAPEX, so it overstates the cash truly available. Net cash movement, from the bottom of the cash flow statement, includes financing — equity raised, debt drawn and repaid, dividends — so it answers a different question entirely. Free cash flow deliberately sits between the two: after CAPEX, before financing. Knowing which of the three a figure represents prevents a great deal of misreading.
Why one year can mislead
A single year's free cash flow can be distorted by a large one-off CAPEX project or a swing in working capital, so it pays to look at several years together. A multi-period forecast smooths these lumps and shows the underlying cash-generating power of the business, which is what investors and lenders actually care about.
Forecast free cash flow free
Where free cash flow goes
Free cash flow is the cash left for capital providers after the business has funded its operations and reinvestment. Unlevered FCF is allocated first to lenders as interest and principal; what remains — levered free cash flow — belongs to shareholders and can fund dividends, buybacks or be retained. Tracking this waterfall shows exactly how much discretion management actually has.
The EasyFinancialModels Free Cash Flow Forecasting tool builds both unlevered and levered free cash flow from your revenue, cost, CAPEX and working-capital assumptions, and shows the full bridge between them via the debt schedule — as an editable, formula-linked Excel workbook. It's free for a 3-year forecast, monthly to annual, with just your email.
From revenue to UFCF: the full build-down
| Line | Amount |
|---|---|
| Revenue | 20.0 |
| Less: operating costs | (10.0) |
| EBITDA | 10.0 |
| Less: depreciation & amortisation | (2.0) |
| EBIT | 8.0 |
| Less: tax at 25% | (2.0) |
| NOPAT | 6.0 |
| Add back: D&A | 2.0 |
| Less: CAPEX | (2.5) |
| Less: increase in working capital | (0.5) |
| Unlevered free cash flow | 5.0 |
The build-down explains why two companies with identical revenue can produce very different cash. Every line between the top and the bottom is a place where cash leaks — heavier CAPEX, slower collections, a higher tax rate — and the walk makes each leak visible instead of burying it in a single 'free cash flow' figure.
Where readers lose the thread
The step that confuses most people is depreciation being subtracted and then added back. It is not a mistake: D&A must come out before tax because it is tax-deductible, and must come back after because no cash actually left. The detour exists purely to compute the right tax charge. Once that clicks, the rest of the walk is arithmetic.
Related: calculate free cash flow from EBITDA · why free cash flow differs from profit · build a free cash flow model
Frequently asked questions
What is the difference between UFCF and LFCF?
Unlevered free cash flow (UFCF) is cash to all investors before financing. Levered free cash flow (LFCF) subtracts interest and debt repayments, leaving the cash available to equity holders.
How do you calculate free cash flow?
UFCF = NOPAT + depreciation and amortization − CAPEX − increase in working capital. LFCF = UFCF − after-tax interest − net debt repayment.
Which free cash flow is used in a DCF?
A standard enterprise DCF discounts unlevered free cash flow at WACC. An equity DCF discounts levered free cash flow at the cost of equity.
How do you get from revenue to free cash flow?
Walk the P&L down: revenue minus operating costs gives EBITDA; minus depreciation gives EBIT; multiply by (1 − tax rate) for NOPAT; add depreciation back, then subtract CAPEX and the working-capital increase. The result is unlevered free cash flow.
→ Build your free cash flow model free with the Free Cash Flow tool
More Free Cash Flow guides
EBITDA to FCF: How to Calculate Free Cash Flow (Formula) · Unlevered vs Levered Free Cash Flow: The Difference and When to Use Each · Why Free Cash Flow Matters More Than Profit · Free Cash Flow Conversion: What It Is and What's a Good Rate · How to Model Tax-Loss Carryforwards (NOLs) in a Financial Model
About the author
Every model is built and reviewed by the project's Financial Advisor — a Fellow Chartered Accountant (FCA) of the Institute of Chartered Accountants of Pakistan (ICAP), Chartered Global Management Accountant (CGMA) and Associate Chartered Management Accountant (ACMA) with around two decades of corporate finance, audit and accounting experience, designing investor-grade financial models across industries. Full credentials and background are available on LinkedIn. More about the author →
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