Show pageOld revisionsBacklinksBack to top This page is read only. You can view the source, but not change it. Ask your administrator if you think this is wrong. ======Cash Flow====== Cash Flow is the net amount of cash and cash equivalents being transferred into and out of a business. Think of it as the financial pulse of a company—the real, hard currency flowing through its veins. Unlike profit, which can be a slippery concept influenced by [[Accounting]] rules, cash flow is simple: it’s the money in the bank at the end of the day. For a [[Value Investing]] practitioner, understanding a company's cash flow is non-negotiable. It reveals the true health of a business, showing its ability to settle debts, reinvest in its operations, and ultimately, return money to shareholders. A company can post impressive profits on paper but go bankrupt if it can't manage its cash. As the old investing adage goes, "Revenue is vanity, profit is sanity, but cash is reality." ===== Cash is King: Why It Often Trumps Profit ===== Many new investors fixate on a company’s net income (or profit). While important, profit can be misleading. Thanks to a system called [[Accrual Accounting]], companies can record revenue when a sale is made, not when the cash is actually collected. They also subtract non-cash expenses like [[Depreciation]] and [[Amortization]], which reduce profit on paper but don't involve an actual cash outlay. Imagine you own a lemonade stand. You sell a glass of lemonade to your neighbor for €1, and he promises to pay you tomorrow. On your books, you've earned €1 in profit. But your cash box is still empty. You can't use that "profit" to buy more lemons until your neighbor actually pays you. Cash flow cuts through these accounting complexities. It tracks only the hard cash moving in and out, making it a much more honest measure of a company's financial performance. A company that consistently generates more cash than it uses is a healthy, self-sustaining enterprise. ===== The Three Flavors of Cash Flow ===== A company's cash flow is detailed in a financial statement called the [[Statement of Cash Flows]]. It's broken down into three main activities, each telling a different part of the company's story. ==== Cash Flow from Operations (CFO) ==== This is the most important of the three. CFO represents the cash generated from a company's core, day-to-day business activities. For a car company, this is the cash from selling cars; for a coffee shop, it's the cash from selling lattes. It includes cash received from customers and subtracts cash paid for inventory, salaries, and other operational expenses. A healthy company should consistently generate strong, positive cash flow from operations. It’s the engine that powers everything else. If this number is negative or declining over time, it's a major red flag. ==== Cash Flow from Investing (CFI) ==== This section tracks the cash spent on or received from investments. This typically includes: * The purchase of long-term assets like buildings, machinery, or equipment (also known as [[Property, Plant, and Equipment (PP&E)]]). This is a cash outflow. * The sale of those same assets. This is a cash inflow. * The purchase or sale of other businesses or financial securities. For a healthy, growing company, CFI is often negative. This isn't a bad thing! It means the company is reinvesting in its future by buying new equipment or expanding its facilities. However, a consistently positive CFI might mean the company is selling off assets to stay afloat, which is a cause for concern. ==== Cash Flow from Financing (CFF) ==== This part of the statement shows how a company raises and returns capital to its investors and creditors. Key activities include: * Issuing stock or borrowing money ([[Debt]]). This brings cash in. * Buying back its own stock, repaying debt, or paying [[Dividends]]. This sends cash out. The CFF tells you how management is handling its financial obligations. A mature, profitable company might have a negative CFF because it's returning cash to shareholders through dividends and buybacks—a great sign for investors. A young, fast-growing company might have a positive CFF because it's raising money to fund its expansion. ===== The Holy Grail: Free Cash Flow (FCF) ===== For many value investors, the ultimate metric is [[Free Cash Flow (FCF)]]. While not always listed directly on the main statements, it's the true treasure you're digging for. It represents the cash a company has left over after paying for everything it needs to maintain and grow its operations. The most common calculation is straightforward: **Free Cash Flow = Cash Flow from Operations - [[Capital Expenditures]]** (Capital Expenditures, or CapEx, is the money spent on acquiring or upgrading physical assets and is found within the CFI section). This FCF is the "free" cash available to reward shareholders. A company can use it to pay dividends, buy back shares (which increases the value of remaining shares), pay down debt, or acquire other companies. A business that gushes Free Cash Flow year after year is a powerful wealth-creation machine. It’s a key input for many valuation models, including the [[Discounted Cash Flow (DCF)]] analysis. ===== A Value Investor's Cash Flow Checklist ===== When analyzing a company, don't just look at one number. Read the story the cash flow statement tells. * **Look for a history of positive CFO:** The business's core operations should be a reliable source of cash. * **Compare cash flow to net income:** If profit is consistently much higher than cash flow from operations, dig deeper. The company might be aggressive with its accounting. * **Analyze the Free Cash Flow:** Is it positive and stable (or growing)? Is it enough to cover dividend payments? A company that borrows money to pay a dividend is playing a dangerous game. * **Understand the context:** A startup burning cash (negative CFO and CFI) while raising money (positive CFF) is normal. A large, established blue-chip company doing the same is a sign of deep trouble.