FCFE

Now descend to the shareholders' altitude. Start from FCFF, take out what the lenders take and add what they contribute:

FCFE = FCFF − Interest × (1 − t) + Net borrowing

Net borrowing = new debt raised − debt repaid   (the year's net change in borrowings)

Or go straight from net income, where interest is already deducted:

FCFE = Net income + D&A − Capex − ΔWC + Net borrowing

Worked example: FCFE, and why net borrowing flatters it

Try both routes on the cement base year. Assume the company raised a net ₹500 cr of new debt, which keeps leverage roughly steady as it grows. Then FCFE = 6,600 − 750 + 500 = ₹6,350 cr. From net income it's 8,250 + 4,000 − 6,000 − 400 + 500 = ₹6,350 cr, so the two agree.

What's net borrowing doing in there? FCFE is the cash shareholders could extract, and new borrowing really does add to that. Raise ₹500 cr of debt and you could pay it straight out as a dividend. Repayment really does subtract. That's also what makes FCFE dangerous, because it's leverage-flatterable. A company can manufacture a fat FCFE for years simply by borrowing, right up until it can't. A forecast of growing FCFE built on ever-rising net borrowing is a levered time bomb wearing a valuation. FCFF has no such lever, and that's one reason it's the default tool.

When should you use FCFE instead of FCFF?

FCFE is the better tool in three cases:

1. Financial firms (banks, NBFCs, insurers). For them debt is raw material instead of financing. WACC is meaningless there, and only the equity lens works. The WACC build flagged this, and the phase capstone builds it.
2. Stable-leverage companies, where you want value per share directly and the debt policy is boring and predictable.
3. Dividend-like analysis. For a mature payer, FCFE is "what could be paid." Set actual dividends plus buybacks against it to see how much the company really pays out. The capital-allocation report card grades this.

For everything else, forecast FCFF. Let the equity bridge do the descent once, at the end. That matters most when leverage is changing, which is when the two altitudes diverge most. It also saves you from forecasting a borrowing schedule year by year.

What is Damodaran's shortcut for a constant debt ratio?

Damodaran's stable-leverage shortcut is a forecasting convenience worth knowing. Say the company finances a constant fraction DR of its reinvestment with debt, where DR is the debt ratio. Then FCFE = NI − (1 − DR) × (capex − D&A) − (1 − DR) × ΔWC. That builds the borrowing assumption into the structure instead of adding it line by line. Use it in FCFE models of steady-leverage firms, and state DR explicitly.