Change in NWC
Hey,
I'm still relatively new, I have a question regarding the change in NWC, for example, if you calculate FCFF, the formula is FCFF = EBIT * (1 - MTR %) + D&A (and other noncash items) - CapEx - Change in NWC.
But how do I calculate the change in NWC? For example, if I have the NWC in 2023 and 2024, do I calculate the change in NWC as =NWC(2024) - NWC(2023) or as (=NWC(2023) - NWC (2024)) I have seen both, and somehow that doesn't make much sense to me. Can someone explain this to me, thank you.
To me it looks like both formulas are the same?
Assume a very simple balance sheet, with only inventories as current assets — no other current assets and no liabilities.
If your inventories in 2023 were €10, and in 2024 15€, then your change in NWC is +€5 (i.e., a reduction in FCFF by €5).
Did I answer your question?
EDIT: I reread your question. You would do 2024 - 2023, not the other way round. But it again does not matter because you can do (2023 - 2024) * -1
Yes, it's not the same if I have an NWC = 10 in 23 and an NWC of 15 in 24, so to speak. If I were to then calculate Chane in NWC = 10 - 15 and then I would have -5, but if I calculate Change in NWC = 15-10 then I would have 5. And if I were to simply deduct the Change NWC above, then it does make a difference how you calculate the Change.
Answer below is gives good color to this. But I recommend that you try to think about this conceptually rather than ‘mathematically’. If net working capital increases, than the organization has to pay for it with their free cash flows. Generally if we are to describe change in any sort of time series, we say T_1 - T_0.
Yeah technically I think you can do it either way, but you just need to make sure you’re reflecting it correctly in your FCF calc. So if NWC increases YoY that should show up in your FCF calculation as a negative and vice versa. So if you did 2023 - 2024 and it’s an increase then your change in NWC is negative so can pull that value directly. If you did 2024 - 2023, and it’s an increase you’ll need to flip the sign.
So do I understand this correctly, if I have a
EBIT = 5
MTR = 30%
D&A = 5
CapEx = 5
And then in 23 an NWC=5 and in 24 an NWC=10
Would I then calculate correctly FCFF = 5*(1-0.3)+5-5 - (10-5) = -1.5
Yes, this is correct
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