The Free Cash Flows (“FCF”) Schedule in a deal model is the first of three “hold period” schedules that are deeply interconnected (along with the Tax and Debt schedules). The FCF schedule is ultimately responsible for the calculation of Levered Free Cash Flows (sometimes abbreviated as “LFCF”) for each period of the investment Hold Period and determining the uses of excess cash generated each period after paying interest expense on drawn debt.
An example of a completed FCF schedule is shown below:
The initial three rows of the FCF schedule are directly mapped from the operating model covered in the previous article. Couple important things to call out:
EBITDA in the Levered Free Cash Flow Statement is UNADJUSTED
I can’t tell you how often I’ve seen someone make this mistake – they have highly adjusted EBITDA running through their Operating Model (to make them feel like they’re paying a lower multiple than they are) but then link that adjusted number into the cash flows. If it isn’t cash, and it can’t be used to pay down debt, then it doesn't belong in this schedule.
If you have one-time cash costs that should be burdening cash flows but aren’t part of EBITDA (e.g., carve out costs, other one-time spend) include them as separate lines here. These one-off items shouldn’t burden your EBITDA / impact your exit multiple but certainly need to reduce your hold period cash flows.
The next line – Cash Interest – comes from the debt schedule which we will cover in the next article. If you are still building LBOs in Excel, set up the line for this row and leave it blank for now until we wire up the debt schedule and come back to re-link it later.
The next line – Cash Taxes (Levered) – comes from the tax schedule which once again we will need to leave blank until we finalize the tax schedule.
You can almost think of the rest of this schedule as a “Sources and Uses” of its own – the levered free cash flow is the source of cash (what the business produced during the period), and the following section determines how that cash is used. The most common assumption for this part of the schedule is that all Levered Free Cash Flow available is used to pay down debt. That is sort of the “default” assumption of most LBOs – in part because it helps offset interest cost to pay down debt, but also in part because lenders may require or expect some scheduled paydown of debt over an investment hold period.
That’s the high-level – line by line specifics:
Mandatory Debt Repayment. Some debt securities will have a minimum mandatory repayment requirement, sometimes referred to as “Amortization”, which we lay out here separately from any voluntary repayment we may be able to achieve.
Beginning Cash. We add to our “available uses of cash” the beginning cash balance (which comes from the prior period’s ending cash balance).
Minimum Cash. Next, we subtract the minimum cash balance threshold we’ve set for ourselves – by pulling this amount of cash out of the calculation, we ensure that we retain (or fund) at least that amount of cash to the balance sheet each period.
Cash Available For Discretionary Redeployment. That sure is a mouthful. Most simple LBOs would call this line something like “Cash Available for Debt Repayment” (I’ve even seen it abbreviated as CFADS – Cash Flow Available for Debt Service). We expand this due to the many model extensions Mosaic can handle past the Base LBO – in addition to paying down debt, cash available at this point could be used to pay the sponsor a dividend or acquire additional businesses (i.e., the sponsor has discretion over its redeployment).
Optional Debt Repayment. In our Base LBO, we keep it simple and do indeed use the cash available to optionally repay debt. This amount itself is calculated in a subsequent schedule, the debt schedule (covered next).
Sponsor Equity Injections. Here we add a line to handle the situation where LFCF is not sufficient to meet all obligations of the firm (e.g., it is negative or not enough to cover Mandatory Debt Repayments). In these situations, the “hole” needs to be filled with something – either a Revolving Credit Facility, or an injection of equity capital from the sponsor. This line simply checks if the Change in Cash before Equity Injections is < 0 – if so, it will draw equity equal to that amount, if not, it will be zero.
Change in Cash Over Minimum Cash Balance. A few steps earlier in this schedule, we introduced two opposing lines – the beginning cash balance and the minimum cash balance – to reflect a net source of cash available for discretionary redeployment equal to the cash balance at the beginning of the period over and above the minimum cash balance. This line reflects either:
A) How much beginning balance cash we used up in the period (if it was higher than the minimum cash. In the case above, we set opening cash to $20mm, but set no minimum cash balance in the model. So the FCF table used up all of the available balance sheet cash (not limited by a minimum) to pay down debt. Here, we have to subtract this $20mm so that we are not double counting the beginning balance cash used and appropriately reflect that cash on the balance sheet declined by $20mm.
B) How much cash we didn’t use / saved to the balance sheet because our beginning balance was less than the required minimum cash balance we set. This latter scenario will only happen in the unusual case that you set a minimum cash balance but do not fund any cash to the opening balance sheet in the sources and uses.
Change in Cash. Here we summarize how much the cash balance has changed from the beginning of the period to the end. Simply the sum of the Change in Cash before Equity Injections, any Sponsor Equity Injections, and the Change in Cash Over Minimum Cash Balance described above.
Beginning Cash. The prior period’s ending cash balance.
Ending Cash. Beginning cash plus the change in cash.