Friday, May 3, 2024

One of the most important metrics of corporate health these days is free cash flow: the amount of cash a company still has after it pays its for routine operating expenses (opex) and capital expenditures (capex).

That remaining cash (abbreviated as FCF) can pay for lofty ambitions such as R&D, acquisitions, dividends, or share buybacks. It also pays down a company’s debt load — and hence FCF is so important these days. As interest rates remain stubbornly high and many companies refinance their debts from the late 2010s at those higher rates, companies will need strong FCF to cover those larger interest payments. 

So the crack Calcbench research team wondered: How has free cash flow been performing lately? 

To answer that question, we visited our Multi-Company database page and pulled up free cash flow disclosures for more than 1,700 non-financial companies with annual revenue of $100 million or more. Figure 1, below, shows total free cash flow for that group for the last five years. 

As you can see, cashflow has risen nicely over the last five years, from $1.82 trillion in 2019 to $2.63 trillion last year, an increase of 44.3 percent. On the other hand, that increase unfolded in a rocky manner, with free cash flow declining in 2022 (amid punishing inflation increases that year), followed by a sharp jump in FCF in 2023.

Also, is it even wise to study FCF at that collective level? Wouldn’t a few highly profitable companies generate huge piles of FCF that eclipse whatever is happening with smaller companies? 

Fair point, so Figure 2 shows median cash flow for the same group, over the same five-year period.

Median cash flow levels are far smaller, but they tell broadly the same tale. Median cash flow jumped 66.2 percent, from $74.4 million in 2019 to $123.7 million in 2023.

We also did a raw count of how many companies in our sample (1,706 firms) had positive FCF in any given year versus those reporting negative FCF, and that was even more good news. In 2019, 1,287 companies had positive free cash flow; in 2023, that number rose to 1,351.

What to Do With FCF

We looked at free cash flow collectively more as a thought experiment than anything else. Individual analysts, however, could look at FCF from individual companies in conjunction with several other disclosures to get a sense of the company’s future prospects. 

For example, if the company has high debt levels, analyze the interest rates and due dates for that debt. (How, you ask? Start by reading our in-depth series last year on corporate debt disclosures.) If you determine that the company’s interest rate payments are going to spike, then you can assess whether it has sufficient free cash flow to cover those higher payments.

Or if the company has low debt levels and lots of free cash flow, consider whether that money might be used for acquisitions, dividends, or share buybacks. Any of those three actions could have significant implications for the share price.

Or if the company has declining free cash flow and persistent sagging share price, perhaps a goodwill impairment might be in the company’s future.

Our point being that free cash flow can be an enormously useful metric when used in conjunction with other metrics — and in just about all cases, Calcbench has those other metrics too!

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