Companies with perpetually negative free cash flow

[applejuice]

Hi,

Hopefully a few members here who understand financial statement analysis could help me understand something:

I am aware that, from a fundamental perspective, there are at least two approaches to valuing a business:
(i) estimate the value of future cash flows
(ii) estimate the "wind-up" value, i.e. physical assets that could be sold off etc

If I were looking to buy the whole business, I suppose I would be very interested in Free Cash Flow, as I take this to mean the cash I could extract from the business after every bill and expense has been taken care of.

But how then do I explain the rising market capitalisation of e.g. Welltower Inc, or NextEra Energy Inc? Or many others I could give as example.

These businesses have years of heavily negative free cash flow. If I bought the whole business tomorrow, I don't see what I would actually get out of it. And yet the market values these businesses rather highly.

What am I missing?

Cheers!

 

[Eurokopek]

Nextera energy has positive net income, so you can use that instead of cash flows. Cash flows are negative due to capex, so you can assume decent earnings growth under assumptions their spending makes sense.

NEE's primary capital requirements are for expanding and enhancing FPL's electric system and generation facilities to continue to provide reliable service to meet customer electricity demands and for funding NEER's investments in independent power and other projects.

 

[newwurldmn]

Hi,

Hopefully a few members here who understand financial statement analysis could help me understand something:

I am aware that, from a fundamental perspective, there are at least two approaches to valuing a business:
(i) estimate the value of future cash flows
(ii) estimate the "wind-up" value, i.e. physical assets that could be sold off etc

If I were looking to buy the whole business, I suppose I would be very interested in Free Cash Flow, as I take this to mean the cash I could extract from the business after every bill and expense has been taken care of.

But how then do I explain the rising market capitalisation of e.g. Welltower Inc, or NextEra Energy Inc? Or many others I could give as example.

These businesses have years of heavily negative free cash flow. If I bought the whole business tomorrow, I don't see what I would actually get out of it. And yet the market values these businesses rather highly.

What am I missing?

Cheers!

Eventually it will turn and produce a lot of positive cashflow.

A company that perpetually doesn't produce free cash will eventually go bankrupt. A company can produce negative net income for a long time and still be a viable enterprise - if it has very high non cash expenses

 

[Gotcha]

A company that perpetually doesn't produce free cash will eventually go bankrupt. A company can produce negative net income for a long time and still be a viable enterprise - if it has very high non cash expenses

Uber manages to get by with high cash expenses, since over 80% of income generated goes to the drivers, and yet they still lost a billion dollars. (these numbers are to the best of my recollection)

It seems to me that the only way for them to make it is via the self driving car option. I don't know how much cash they have left, how much more cash they can get from their investors, but without taking out their biggest expense, which is the driver, how will they ever make money? Clearly they can't charge more money, and clearly the drivers can't make any less since they are already not that happy I don't imagine, so self driving cars seem to be the only way forward in my opinion.

So although they burn cash every quarter, their huge user base is what gives them the sky high valuation. Of course, this can come crashing down any time.

 

[newwurldmn]

Uber manages to get by with high cash expenses, since over 80% of income generated goes to the drivers, and yet they still lost a billion dollars. (these numbers are to the best of my recollection)

It seems to me that the only way for them to make it is via the self driving car option. I don't know how much cash they have left, how much more cash they can get from their investors, but without taking out their biggest expense, which is the driver, how will they ever make money? Clearly they can't charge more money, and clearly the drivers can't make any less since they are already not that happy I don't imagine, so self driving cars seem to be the only way forward in my opinion.

So although they burn cash every quarter, their huge user base is what gives them the sky high valuation. Of course, this can come crashing down any time.

They probably lose money because they are constantly reinvesting their gross profits in growing the business and various skunk work projects.

 

[Gotcha]

They probably lose money because they are constantly reinvesting their gross profits in growing the business and various skunk work projects.

That's a good point. I'm sure the self driving programs are sucking huge sums, but I do still wonder if they would be profitable without this expense. Mind you, since all they are is an app, even if you add in all the engineers and salaries of customer support, since they don't have to pay for materials and stuff, you would hope there would be profit there.

 

[newwurldmn]

That's a good point. I'm sure the self driving programs are sucking huge sums, but I do still wonder if they would be profitable without this expense. Mind you, since all they are is an app, even if you add in all the engineers and salaries of customer support, since they don't have to pay for materials and stuff, you would hope there would be profit there.

I would be surprised if they weren't because if they weren't they would be sucking up VC money like crazy.

 

[Xela]

What am I missing?

It's not that there's one specific thing that you're "missing", in my opinion. It's more than your own attitudes and perspectives toward the "value" of a company are fundamentally different from those of the wider market. If it helps to illustrate what I mean, think about the "value" of Amazon during the first decade or so of its life, how you would have valued it yourself (given your assessment criteria), how the market valued it, and who was "right".

 

[Sig]

It's not that there's one specific thing that you're "missing", in my opinion. It's more than your own attitudes and perspectives toward the "value" of a company are fundamentally different from those of the wider market. If it helps to illustrate what I mean, think about the "value" of Amazon during the first decade or so of its life, how you would have valued it yourself (given your assessment criteria), how the market valued it, and who was "right".

Exactly. High growth startups, especially companies like Uber where there are low barriers to entry for competitors, are in a race to dominate their market and then they can milk the profits from that for years to come. Their investor's invested in them to do exactly that, nothing pisses a VC off more than taking a big chunk of their money and not using it. Seriously, they'd much rather you spent it all in a valient but in the end failed effort than sat on it, because their model only works if every investment has the potential and is striving to be a billion dollar plus company. They fully expect many of their investments to fail but enough to succeed spectacularly that they outweigh the failures. The only thing a VC would really consider a failure is not going all out to capture your market.

 

[dealmaker]

High growth startups, especially companies like Uber where there are low barriers to entry for competitors, are in a race to dominate their market and then they can milk the profits from that for years to come.

Agreed, if you do not dominate a low barriers to entry market you run the danger of becoming an also run. Everything must be viewed in proper context not universal applicability.