Reconciling items
- D&A: non-cash, in OCF reconciliation.
- SBC: non-cash, in OCF reconciliation.
- Deferred taxes: book/cash timing wedge.
- Change in working capital: receivables, inventory, payables movements.
- CapEx: cash investment not on the income statement.
FCF > net income: what it says
D&A above CapEx, working capital releasing cash, or deferred revenue building. Asset-light or post-investment runoff. Generally healthy for mature businesses.
FCF < net income: red flag
Sustained below-100% conversion suggests aggressive revenue recognition under ASC 606[ASC 606], receivables build outpacing sales growth, or persistent CapEx above D&A without the offsetting growth showing in revenue.
Which figure goes in a valuation model
FCF. Net income is an accrual concept; valuation discounts cash. Use FCFF with WACC or FCFE with cost of equity.