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Strategies & Market Trends
Free Cash Flow as Value Criterion
An SI Board Since October 1997
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Emcee:  jbe Type:  Unmoderated
How can you tell whether a stock is undervalued or overvalued? The received way to make that determination is to divide the projected growth rate by the p/e ratio. But there are some financial analysts who argue that a firm's present and estimated future free cash flow is a much better criterion of value. Free cashflow, crudely defined, is operating cash flow (net income plus amortization and depreciation) minus NECESSARY (to sustain the business) capital expenditures.

From the bible of free cash flow freaks (Kenneth S. Hackel & Joshua Livnat: Cashflow and Security Analysis, 2nd edition, 1996): "Instead of focusing on earnings of a firm that can be manipulated by the selection of accounting methods, we focus on the maximum amount of cash that can be distributed to shareholders without sacrificing future growth. The investment approach is a bottoms-up process, which identifies firms that are consistent generators of free cash flows, that have low financial leverage, and that have low free cash flow multiples."

This thread is for discussion of stocks that meet, or appear to meet, those criteria, as well as for discussion of the problems of cash flow analysis.

There are two ways of identifying firms that are either overpriced or underpriced in terms of their free cash flow. The first, which certifiable math idiots like myself use, is simply to look at the PRESENT cashflow situation: that is, to look at the 10-K statement of cashflows; the amount of free cashflow per share; and the price/free cashflow ratio.

One of the things you discover when you do that is that there are quite a few firms out there that appear to be overvalued using the conventional method (projected growth rate divided by p/e), but undervalued in terms of their present free cash flow.

The second method -- estimating the stream of future cash flows (discounted back to the present) -- is probably much better, but it is also much more complicated and much more speculative. Hopefully, to get the ball rolling, Andrew will repost the explanation of this method he originally posted on the Unitrode thread (which is also where the idea for this thread was born).
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252I've been thinking about free cash flow for a while now. My thoughts are thaHarshu Vyas-March 6
251Just wanted to say Thank You for being well ahead of me in my thinking proces! robert b furman-1/31/2012
250Thank you for replying to my query. Where best to look for a practical applicatityc:>-11/29/2000
249Hmmmm, that's a novel (to me, anyhow) way of putting it, but unless I'm Daniel Chisholm-11/26/2000
248(from a neophyte trying to understand the market) It seems to me that <b>tyc:>-11/26/2000
247 You can assess the value of that free cash flow by (here's the unpleasant pHeyRainier-1/31/2000
246 Thank you for your reply This is a situation in which a public company sold ittyc:>-1/31/2000
245 You can only take control of a company's free cash flow if you own over 50%HeyRainier-1/31/2000
244 Is it valid to say that a company benefits from its operations only from its &qtyc:>-1/31/2000
243 Hello Andrew, I hope you have been doing well since we have last spoken. I wouHeyRainier-9/20/1998
242 I guess it is no coincident that you read this thread also :). Thanks for the wSC-8/15/1998
241 Shawn: I confess to being the author of the article you referenced. I can usuporcupine --''''>-8/14/1998
240 Cash earnings ratios as an approximate measure of Value Would like to here othSC-8/14/1998
239 I hear what you are saying. Peter Lynch always made a simple point that owninRex Dwyer-6/24/1998
238 Bob, Your big tables really illustrate just how much information is missing whAndrew-6/22/1998
237 As a matter of fact, I did do a study of this, and I found that the old rule ofBob Martin-6/22/1998
236 Andrew, I went back and read post #1, and it is a good one! In that old post yDaniel Chisholm-6/21/1998
235 Rainier, Thanks! I still agree with what I wrote in that post...but if I wroteAndrew-6/19/1998
234 Andrew, what a fantastic first post. Of course there are a number of us who jusHeyRainier-6/19/1998
233 I don't quite understand what "flow as value criterion" means. BuGrant Froese of Medicine Hat-4/5/1998
232 What did you do, get lost ?? I stumbled on this by accident. I've been deAlejandro-4/1/1998
231 Shhhhhhh........SteveG-3/31/1998
230 Is this thread dead ? Or has it continued elsewhere ? acAlejandro-3/31/1998
229 Here is an interesting way to analyze cash flow on a company. Sorry for the foHonest Abe-1/30/1998
228 I agree wholeheartedly. I have not thought about it enough to offer a calculatHonest Abe-1/22/1998
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