Whether you are dealing with stocks or MLPs, one thing is clear: cash is king. Stock investors typically use a metric called “Free Cash Flow” as a gauge of a company’s ability to generate cash (after adjusting for expenses relating to maintaining its assets). This cash can then be used to fund additional projects or pay out dividends. Similarly, MLP investors use Distributable Cash Flow (DCF) as a measure of cash available to distribute to unitholders or fund growth.
Calculating DCF
Calculating DCF is fairly simple, and involves working backward from Net Income on the Income Statement and adding back accounting related items. Remember that accounting items like depreciation and amortization are typically subtracted from income to represent the loss of value of different assets over time. However, they don’t really have anything to do with generating cash, so we want to make sure we add them back to net income. The calculation is:
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[...] recently posted an entry outlining the importance and calculation of distributable cash flow (DCF) when evaluating MLPs. In a nutshell, DCF represents what the MLP could have paid out in cash to [...]