Free Cash Flow Yield
Free cash flow yield is a financial solvency ratio that compares the free cash flow per share a company is expected to earn against its market value per share. The ratio is calculated by taking the free cash flow per share divided by the current share price. Free cash flow yield is similar in nature to the earnings yield metric, which is usually meant to measure GAAP (generally accepted accounting principles) earnings per share divided by share price.
Definition: Free Cash Flow Yield is a financial solvency ratio that compares a company's expected free cash flow per share to its market value per share. It is calculated by dividing the free cash flow per share by the current stock price. Similar to the earnings yield, it is used to measure the ratio of earnings per share to the stock price according to generally accepted accounting principles.
Origin: The concept of Free Cash Flow Yield originated in the late 20th century as investors increasingly focused on cash flow management and the actual profitability of companies. Its use helps investors better assess a company's financial health and investment value.
Categories and Characteristics: Free Cash Flow Yield can be divided into two main categories: positive free cash flow yield and negative free cash flow yield.
- Positive Free Cash Flow Yield: Indicates that the company generates more free cash flow than zero, usually seen as a sign of financial health, suggesting the company can repay debt and reinvest.
- Negative Free Cash Flow Yield: Indicates that the company generates less free cash flow than zero, which may suggest operational or investment issues, requiring further analysis of its financial condition.
Specific Cases:
- Case 1: Suppose Company A has a free cash flow per share of $5 and a current stock price of $50, its free cash flow yield would be 5/50 = 10%. This means that for every dollar invested, investors can receive $0.10 in free cash flow.
- Case 2: Company B has a free cash flow per share of -$2 and a current stock price of $40, its free cash flow yield would be -2/40 = -5%. This indicates that Company B may have financial issues, and investors should be cautious.
Common Questions:
- What is the difference between Free Cash Flow Yield and Earnings Yield? Free Cash Flow Yield focuses on the actual cash flow generated by the company, while Earnings Yield is based on accounting profits. The former better reflects the company's actual financial health.
- Does a negative Free Cash Flow Yield always mean poor financial health? Not necessarily. A negative Free Cash Flow Yield may result from significant capital expenditures or investments, and should be analyzed in conjunction with other financial indicators.
