Chartered Financial Analyst (CFA) Level 1 Practice Exam

How is net cash flow-to-capital expenditures calculated?

1. (FFO - Dividends) / Capital Expenditures

2. CFO / Total Debt

3. Dividends Paid / Number of Shares Outstanding

4. EBIT / Average Total Capital

The correct answer is: (FFO - Dividends) / Capital Expenditures

The calculation of net cash flow-to-capital expenditures is determined by taking the Funds From Operations (FFO) minus dividends and then dividing that result by capital expenditures. This metric provides insight into a company's ability to fund its capital expenditures from its operational cash flows, making it a crucial indicator for investors assessing financial health and sustainability of investments. By focusing on FFO, which represents the cash generated from operations excluding non-cash items, and accounting for dividends, the formula highlights the actual cash available for reinvestment in capital assets. This is particularly relevant in industries that require significant capital investments, where understanding the availability of cash flow for such investments can inform analyses of growth potential and risk. The other answer choices do not align with the specific context of calculating net cash flow-to-capital expenditures as they address entirely different financial metrics. For instance, using CFO divided by Total Debt focuses on the solvency aspect, evaluating a company’s ability to meet its debt obligations, while dividends paid per share is a measure of return on equity rather than a cash flow metric. Lastly, EBIT to average total capital relates to overall profitability in relation to invested capital but does not encapsulate the cash flow aspect necessary for assessing capital expenditures.