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What does "Funds from Operations" Mean?

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  • Written By: Malcolm Tatum
  • Edited By: Bronwyn Harris
  • Last Modified Date: 09 September 2016
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    Conjecture Corporation
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Also known as FFO, funds from operations is a term that is often used in defining the amount of cash flow resulting from the activities of a real estate investment trust. The process for determining the FFO involves adding the amount of depreciation and amortization related to the assets in the fund to the earnings generated by the trust. In most cases, the figure is presented as a per share basis, indicating an increase or decrease from one period to another.

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The purpose behind identifying funds from operations is to determine if the real estate investment trust, or REIT, is enjoying an equitable cash flow or if something has occurred to adversely affect that cash flow. As with many calculations used in evaluating the financial stability of trusts and other types of investment opportunities, taking the time to assess the amount of depreciation and amortization that has occurred within a specific period of time, and add those amounts back to the earnings generated during the same period, will provide valuable clues on how fund administrators should proceed in the future. If the calculation indicates a healthy cash flow that is benefiting the fund and its investors, administrators are likely to make relatively few changes in the fund, unless there is evidence of some major economic event occurring within the near future. Should the calculation indicate that the fund is moving toward a negative cash flow, administrators will take steps to slow and eventually reverse the trend.

As part of the overall analysis, funds from operations also provides some important information regarding the amount of cash available for distribution to investors. From this perspective, FFO is important to investors since the outcome of the calculation does have a direct impact on the earnings per share they receive for a stated period. The emergence of a trend in which that earnings per share increases from one period to the next is typically viewed as a sign that the REIT is stable and that the investment is safe. Investors may choose to reconsider the value of remaining with a given REIT in the event that the funds from operations shows a steady decline in earnings per share over several successive periods.

Funds from operations can serve as a valuable tool for both administrators and investors. The calculation provides fund administrators with feedback on how well they are managing the assets in the fund, and if any changes are necessary in order to protect the interests of the investors. At the same time, investors can utilize the results of the calculation to determine if they want to hold the asset for a little longer, or sell the asset as part of their overall investment strategy.

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