What is Free Cash Flow?

Free Cash Flow is defined as the cash generated by a company that is available for distribution to all security holders, including equity and debt holders. It represents the cash that a company can generate after accounting for the capital expenditures necessary to maintain or expand its asset base.

Option A accurately describes free cash flow by capturing the essence of operational cash generation while deducting capital expenditures and cash dividends. Specifically, it starts with cash provided by operations, which reflects the cash a business generates from its core activities. Then, it subtracts capital expenditures, which are necessary investments in fixed assets like property, plant, and equipment that support the business's ongoing operations. Cash dividends are also deducted since they represent returns to shareholders, and the company must consider these outflows in determining the remaining cash available for other uses, such as reinvestment or paying down debt.

This calculation is crucial as it gives a clearer picture of the financial flexibility of a business, indicating how much cash can be freely used after taking care of essential investments and distributions. Understanding free cash flow is vital for investors and analysts who want to assess a company's financial health and its ability to fund growth, pay dividends, or reduce debt without needing additional financing.