medium · Corporate Credit Analysis fsa
An analyst correctly identifies a 'Desk Error' in a colleague's Unlevered Free Cash Flow (UFCF) model. The colleague started with Operating Cash Flow (OCF) and added back Cash Interest.
Why is this approach fundamentally flawed for credit valuation?
- It incorrectly includes working capital movements, which should be excluded from all unlevered cash flow metrics.
- It fails to account for the tax shield benefit of interest, thereby overstating the cash available to all capital providers.
- Adding back interest to OCF results in 'Double Counting' since OCF already includes interest payments in the financing section of the cash flow statement.
- It ignores Capex, which is the primary difference between OCF and UFCF in capital-intensive industries.
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More Corporate Credit Analysis fsa practice
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