Unlevered Free Cash Flow (UFCF): Definition, Formula & Examples
Why Does DCF Use Unlevered FCF?
DCF models rely on UFCF because it reflects the company’s performance independent of capital structure. By removing debt payments, analysts can compare businesses on a like-for-like basis and then discount UFCF at the Weighted Average Cost of Capital (WACC).Is Unlevered FCF the Same as EBITDA?
No. While both remove financing costs, EBITDA does not account for taxes, changes in working capital, or capital expenditures. UFCF goes further by adjusting EBITDA to reflect these real cash outflows, making it a closer measure of actual cash generation.How Do You Go From EBITDA to Unlevered FCF?
The typical bridge looks like this:- Start with EBITDA
- Subtract Taxes (based on EBIT, not EBT)
- Adjust for Changes in Working Capital
- Subtract Capital Expenditures (CapEx)
What Does Unlevered Free Cash Flow Tell You?
UFCF shows the company’s ability to generate cash regardless of financing decisions. It’s a proxy for the cash available to both debt and equity holders, making it essential in DCF models and enterprise valuation.Levered vs. Unlevered Cash Flows
Levered FCF (LFCF) considers debt payments and represents cash available only to equity holders. Unlevered FCF ignores debt and shows cash available to all stakeholders. Analysts use UFCF when valuing the entire business, and LFCF when focusing on equity value only.Does an LBO Use Levered or Unlevered FCF?
Leveraged Buyouts (LBOs) typically analyze levered cash flows, since debt structure is central to the deal. However, bankers may also use UFCF for comparability before layering in financing assumptions.Unlevered FCF Formula
The most common formula is:UFCF = EBIT × (1 – Tax Rate)
+ Depreciation & Amortization
– Change in Net Working Capital
– Capital Expenditures
UFCF vs. EBITDA vs. Levered FCF
Here’s a quick breakdown:- EBITDA: Operating profitability before non-cash charges, interest, and taxes.
- UFCF: Cash available to all stakeholders before debt servicing.
- LFCF: Cash left after paying interest and debt obligations (equity holders only).
FAQs on Unlevered Free Cash Flow
- Why does DCF use unlevered FCF? Because it removes capital structure bias.
- Is unlevered FCF the same as EBITDA? No, EBITDA ignores taxes, CapEx, and working capital changes.
- How do you calculate UFCF? Start with EBIT, adjust for taxes, add back D&A, subtract CapEx and changes in working capital.
- What does UFCF tell you? It shows true operating cash generation power.
- Does UFCF include interest? No, interest is excluded—that’s why it’s “unlevered.”
Key Takeaways
Unlevered Free Cash Flow is one of the most important metrics in corporate finance and valuation. It strips out debt effects, making it ideal for DCF models and for comparing businesses across industries. While EBITDA is a rough proxy for operating performance, UFCF gives a more accurate picture of real cash flow power.
FAQs Unlevered Free Cash Flow
Discounted Cash Flow (DCF) models typically use unlevered free cash flow (UFCF) because it represents the cash available to all stakeholders — both debt and equity holders — before interest payments. This allows analysts to value the entire business enterprise, independent of its capital structure, and later adjust for debt to reach equity value.
No. While EBITDA measures operating profitability before interest, taxes, depreciation, and amortization, UFCF goes further by subtracting capital expenditures, changes in working capital, and taxes. EBITDA is an earnings measure, while UFCF is a cash flow measure that reflects the actual cash a company can generate.
To calculate UFCF from EBITDA:
- Start with EBITDA.
- Subtract depreciation and amortization to get EBIT (operating income).
- Apply taxes to EBIT to estimate net operating profit after tax (NOPAT).
- Add back non-cash charges (like depreciation).
- Subtract capital expenditures (CapEx).
- Adjust for changes in net working capital (NWC).
The result is UFCF.
- Unlevered Free Cash Flow (UFCF): Cash available to both debt and equity investors before interest payments.
- Levered Free Cash Flow (LFCF): Cash available to equity holders after paying interest, principal repayments, and mandatory debt obligations.
UFCF indicates a company’s ability to generate cash from its operations without considering financing decisions. It’s useful for valuing the core business and comparing companies with different debt structures. A strong UFCF suggests operational efficiency and financial health.
Levered IRR measures equity returns after accounting for debt. Because debt amplifies both gains and losses, levered IRR is usually higher than unlevered IRR when investments perform well. However, it also comes with greater financial risk due to leverage.
A Leveraged Buyout (LBO) uses levered free cash flow, since private equity investors care about cash flows after debt payments. LBO models are highly sensitive to debt repayment schedules and interest costs, unlike DCF models that focus on UFCF.
In interviews, the structured answer is:
- Start with forecasting UFCF over 5–10 years.
- Calculate the terminal value (using perpetuity growth or exit multiple).
- Discount all cash flows back to present using WACC.
- Arrive at the Enterprise Value.
- Subtract net debt to reach Equity Value, then divide by shares outstanding to get the implied share price.
No. UFCF excludes interest payments because it is calculated before financing costs. This makes it independent of a company’s capital structure, which is why it’s the preferred metric in valuation models like DCF.
