Financial statements can provide a simple understanding of a company's operating profitability to some extent.。The ability of capital turnover determines whether an enterprise can operate stably for a long time.。In addition to paying attention to the profitability of the company, investors should also learn more about the flow and use of the company's funds。

For a sound business, the ability to retain cash is critical because it can be used to invest in future expansion, repay debt and pay dividends.。Therefore, free cash flow can be seen whether a company's financial structure is healthy, can continue to make stable profits and retain cash, for shareholders and the future development of the enterprise has a positive impact.。

What is Free Cash Flow？

The cash flow statement (Cashflow Statement) in the three major financial statements records the inflow and outflow of cash in a specific period of time, which can reflect the true situation of the enterprise's funds.。

The cash flow statement is mainly divided into three parts: cash flows from operating activities, cash flows from investing activities and cash flows from financing activities.。

Free cash flow (FCF) refers to the free use of cash that a company can use freely, whether it is to buy machinery and equipment, expand a plant, buy land or invest, will need to use funds, so that investors can understand whether a company has enough funds for future investment purposes or in the company is facing difficulties to survive.

• Free Cash Flow (FCF)

If the value of free cash flow is positive, it means that the more cash the enterprise can use, and if the result is negative, it means that the enterprise can use insufficient funds.。

• Operating Cash Flow

Operating cash flow is the actual income or expenditure of cash from the operation of the enterprise, which can clearly know the true operating results of the enterprise.。If the long-term results of operating cash flow are negative, investors should pay special attention to whether the financial structure of the company is problematic.。

• Investment Cash Flow

Investment cash flow is the cash flow of income or expenditure from the purchase or sale of land, machinery and equipment, plant and other assets.。If the purchase of these assets would generate cash outflows from investing activities; conversely, if the enterprise sold the assets, it would generate cash inflows。

In general, the amount of money a company spends on investment activities shows its ambition for future development.。However, it is not recommended that the cash flow from investing activities exceed the money earned by the enterprise, otherwise it is easy for the enterprise's earnings to fail to meet the investment expenses.。

The meaning of free cash flow

Free cash flow results are positive, and two situations are usually possible。

• The first: the cash inflow from the business activities of the enterprise is greater than the cash expenditure from investing activities.。
• Second: Cash flow from operating activities is a loss, but cash inflows from investing activities。

Under normal circumstances, in the first case, the representative can keep cash, which can be used for future dividend payments, investments or debt repayments.。

However, if the second scenario occurs and an enterprise is found to be at a loss in operating cash flow, it means that it is likely that the enterprise has generated an investment cash inflow through the sale of assets such as land, equipment or plant, making the final free cash flow result positive.。

In this case, investors should pay special attention to the future development of the enterprise。Because the sale of assets to obtain cash flow, is not a long-term solution, only by operating income is the basis of sustainable operation.。

The question is, does it necessarily mean bad if a company's free cash flow results are negative?？

This depends on whether free cash flow is negative for a long time or just a short-term situation.。

If an enterprise is temporarily short of cash due to the purchase of new machinery and equipment, plant expansion and other large-scale investment in business activities, resulting in a temporary shortage of cash.。However, there are opportunities in the future to generate more revenue and make money for the business because of these assets, thereby increasing the value of the business。In this case, negative free cash flow is not necessarily bad for the business。

However, if free cash flow is negative for a long period of time, it is important to note whether the business is overburning its operations, resulting in increasing financial pressure。In the case of poor liquidity, there is even the possibility of a financial crisis。

How to interpret earnings reports with free cash flow？

In general, when looking at whether a business is worth investing in, in addition to looking at the profitability of that business, we should also look at whether the business has enough cash to be able to use it freely.。Whether it's expanding plants, buying equipment assets to increase capacity to create greater profits, or being able to continue to pay good dividends, you'll need to use cash.。

Therefore, investors can include free cash flow as one of the conditions when selecting stocks, and use the last 5 years of data as an observation cycle, which can clearly compare with past performance and avoid companies that are only short-term profitable.。

If the long-term free cash flow of the enterprise is positive, it means that the free cash flow of the enterprise is very stable.。Stock prices have the opportunity to continue to grow over the long term。

SUMMARY

When examining the stability of a company's finances, in addition to focusing on the profitability of the company, it is also important to examine its cash flow statement to see if the actual flow of funds to the company can maintain a positive。Because cash equals the blood of the business.。A sustainable business with plenty of cash to grow its business is also quite important。