How is free cash flow (FCF) typically calculated?

Free cash flow (FCF) is typically calculated as operating cash flow minus capital expenditures. This approach effectively measures the cash generated by a company's operations that is available for distribution among all the securities holders of the entity after accounting for the necessary investments in fixed assets.

Operating cash flow reflects the cash generated from the core business operations and is a more accurate indicator of real cash earnings than net income, as it adjusts for non-cash accounting items such as depreciation and changes in working capital. By subtracting capital expenditures, which are investments made in property, plant, and equipment, you focus on the cash that is truly free for potential investors, dividends, or reducing debt.

Understanding free cash flow is critical for financial analysis because it provides insight into the health of a company's cash generation capabilities, which is a key driver in assessing the firm’s valuation and growth potential.