Briefly define "free cash flows" and describe the key features of the free cash flow approach to valuation.

Free cash flow is operating cash flow minus cash outlays for operating capacity like buildings,equipment,and furnishings.A company's free cash flow thus represents the amount available to finance planned expansion of operating capacity,to reduce debt,to pay dividends,or to repurchase stock.Under the free cash flow approach to valuation,the price of the stock at time = 0,P₀,is equal to the sum of the future stream of expected free cash flow per share discounted back to the present at the firm's cost of equity capital.Multiplying the estimated stock price,P₀,by the number of common shares outstanding produces an estimate of the total common equity value of the company.Simply put,the free cash flow model expresses today's market value of each common share as a function of investors' current expectations of the firm's future economic prospects as measured by its expected future free cash flows.