Owner earnings

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In 1986, Warren Buffett detailed his valuation method. He stated that the value of a company is simply the total of the net cash flows (owner earnings) expected to occur over the life of the business, discounted by an appropriate interest rate.

He defined owner earnings as follows:

"These represent (a) reported earnings plus (b) depreciation, depletion, amortization, and certain other non-cash charges...less (c) the average annual amount of capitalized expenditures for plant and equipment, etc. that the business requires to fully maintain its long-term competitive position and its unit volume....Our owner-earnings equation does not yield the deceptively precise figures provided by GAAP, since (c) must be a guess - and one sometimes very difficult to make. Despite this problem, we consider the owner earnings figure, not the GAAP figure, to be the relevant item for valuation purposes...All of this points up the absurdity of the 'cash flow' numbers that are often set forth in Wall Street reports. These numbers routinely include (a) plus (b) - but do not subtract (c)."^[1]

Buffett's description of owner earnings is very similar to free cash flow.^{[citation needed]} However, it should be noted that he averages capital expenditures over several years, rather than using a single year's value.^{[citation needed]} Also, he is concerned with the capital expenditures necessary to maintain position, not expenditures used for growth.^{[citation needed]}