What is a cash flow waterfall?

A cash flow waterfall is a method of distributing cash flows among different tiers of debt and equity holders. This concept is crucial in structured finance and investment analysis, as it outlines the order in which cash flows are allocated to various stakeholders based on predetermined priorities.

In a typical cash flow waterfall structure, the cash generated by a project or asset is directed first to senior debt holders, then to subordinate debt holders, and finally to equity stakeholders. This hierarchy ensures that those with the highest level of claim on the cash flows are paid first, reflecting the risk and return profile associated with each tier of investment. Understanding this structure is important for investors and analysts to evaluate potential returns and the risk they face in financial transactions.

The other options, while related to finance, do not accurately describe a cash flow waterfall. For example, measuring stock performance or budgeting corporate expenses does not involve the tiered distribution mechanism inherent in a cash flow waterfall. Similarly, a financial statement is a formal record but does not pertain specifically to the flow of cash or its distribution among various claimants.