free cash flow, capital expenditures and tax
TRANSCRIPT
Free Cash Flow, Capital Expenditures and Tax
By Jae Jun
Photo credit: epSos.de / Foter / CC BYwww.oldschoolvalue.com
Foreword
Photo credit: Today is a good day / Foter / CC BY-NC-ND
I wanted to add some additional points on FCF which
I brought up in analysing the Statement of Cash Flows
Photo credit: @Doug88888 / Foter / CC BY-NC-SA
before moving onto the future posts on balance and income
statements.
Photo credit: Brother O'Mara / Foter / CC BY-NC-ND
If a company receives a tax deduction when employees exercise their stock options,
Photo credit: George Eastman House / Foter / No known copyright restrictions
does this count as cash from operating activities?
Photo credit: KellarW / Foter / CC BY
Or if the company defers its income taxes to a later period, does this count as cash from
operations?
Photo credit: elagaan / Foter / CC BY-NC-SA
I don’t think so.
Photo credit: guercio / Foter / CC BY-NC-ND
What You Will Learn
Photo credit: Mark Brannan / Foter / CC BY-NC-SA
Photo credit: Etrusia UK / Foter / CC BY-NC-SA
• What is cash flow• The use of FCF• How to use CAPEX• The effect of positive FCF
Disclosure
Photo credit: Vox Efx / Foter / CC BY
I wanted to add some additional points on FCF which I brought up in the Cash Flow
Statement analysis before moving onto the future posts
on balance and income statements.
Photo credit: Mark Dries / Foter / CC BY-NC-ND
Free Cash Flow Capital Expenditures
Photo credit: 401(K) 2013 / Foter / CC BY-SA
The FCF is supposed to be derived from the operations of
the business.
Photo credit: Images_of_Money / Foter / CC BY
In the updated version of the intrinsic value spreadsheet, the
FCF number now subtracts deferred taxes and “others”.
Photo credit: rbbaird / Foter / CC BY-NC
Capital Expenditure Adjustments
Photo credit: David Gallagher / Foter / CC BY-NC-SA
I would say the most difficult aspect of trying to calculate
FCF is
Photo credit: Ahmad Nawawi / Foter / CC BY-NC-ND
determining the amount of capital expenditure used to
maintain operations and
Photo credit: Museumsfoto / Foter / CC BY
market position versus the amount used for growth.
Photo credit: heanster / Foter / CC BY-NC-SA
A simple example would be to think of a retailer like Wal-Mart.
Photo credit: Foter / CC BY-SA
In 2008, Wal-Mart spent $14.9 billion on capital expenditure.
Photo credit: xddorox / Foter / CC BY
Of that $14.9 billion, 100% of it did not go to opening new
stores or expanding to new emerging markets.
Photo credit: Erik Charlton / Foter / CC BY
A certain percentage was used to maintain its current stores.
Photo credit: JeepersMedia / Foter / CC BY
The shelves have to be filled, maybe the plumbing needed to be fixed or the walls had to be
repainted.
Photo credit: Bill Kramme / Foter / CC BY-NC-SA
The point is to find (or estimate) how much of the
company’s capex is for maintenance which should
then be subtracted from Cash From Operations,
Photo credit: tkamenick / Foter / CC BY-NC-ND
whereas the capex used for growth should not be
subtracted.
Photo credit: budcaddell / Foter / CC BY-NC-SA
Calculating these numbers is much easier said than done.
Photo credit: Internet Archive Book Images /Foter / No known copyright restrictions
If you don’t feel inclined to go through so much data (like
myself),
Photo credit: bionicteaching / Foter / CC BY-NC
simply subtracting the given cap ex is an accepted and
conservative practice.
Photo credit: woodleywonderworks / Foter / CC BY-NC
The reason people go to such lengths to find maintenance
cap ex is to find value a majority of investors cannot
see.
Photo credit: hans s / Foter / CC BY-ND
Understanding the Industry and
Company
Photo credit: Georgie Pauwels / Foter / CC BY
Positive FCF for every company is not possible. That doesn’t mean a company with
negative FCF is bad.
Photo credit: bluekdesign / Foter / CC BY-SA
Positive FCF for every company is not possible. That doesn’t mean a company with
negative FCF is bad.
Photo credit: griseldangelo1 / Foter / CC BY-NC-SA
One example is the oil industry and within that industry, take a
look at Transocean (RIG).
Photo credit: Brendan Biele / Foter / CC BY-NC-SA
A cyclical industry and high cap ex business, yet it’s able to
throw off huge amounts of FCF.
Photo credit: Free Grunge Textures - www.freestock.ca/ Foter / CC BY
Transocean and most oil drilling companies forego FCF
in the short term to create immense shareholder value in
the future.
Photo credit: Eric Constantineau - www.ericconstantineau.com / Foter / CC BY-NC
Conclusion
Photo credit: squeezeomatic / Foter / CC BY
Cash is a fact but there are lots of items which can be left out
or moved to another section of the statements.
Photo credit: Tax Credits / Foter / CC BY
Stick with the cash that comes from operations rather than
one time occurrences.
Photo credit: quinn.anya / Foter / CC BY-SA
Going the full length to find the real maintenance cap ex will
give you more investment opportunities.
Photo credit: pjchmiel / Foter / CC BY-NC-ND
It’s always a good idea to understand the business’s
cash strategy.
Photo credit: Rochelle, just rochelle / Foter / CC BY
Old School ValueJae Jun ([email protected])
http://www.oldschoolvalue.comOld School Value improves your
investment decisions and performs deep fundamental analysis and
valuation for you. Just like a personal stock analyst.