Finance methodology of Free Cash Flow

Free Cash Flow (FCF) was adopted in the late 1980s as a financial tool to evaluate the firm and its individual projects. We question the procedure of calculating the FCF where a significant portion of Current Liabilities is offset against Current Assets, thereby creating the hybrid asset Net Working Capital (NWC). Borrowed from accounting methodology, that procedure distorts the FCF size, composition, volatility, and estimated value. Our empirical analysis shows that the nature and extent of those distortions can misinform the firm's stockholders, lenders and borrowers, and investors at large. We propose a revised FCF that would avoid those distortions.