Why do investors pay close attention to free cash flow figures?

Investors pay close attention to free cash flow figures as they provide insight into a company's financial health and profitability.

Free cash flow (FCF) is a key financial metric that investors use to evaluate a company's financial performance and to determine whether it is generating enough cash to reward its shareholders. It is the cash that a company is able to generate after spending the money required to maintain or expand its asset base. This is important because investors want to see that companies are able to generate enough cash to pay off debts, pay back their investors, and also invest in their own growth.

Investors often prefer FCF over earnings or net income because it is harder to manipulate with accounting tricks. While earnings can often be clouded by a variety of non-cash items, free cash flow is a clearer measure of how much cash a company is generating and, therefore, its profitability. It is a more direct measure of the cash generating ability of a company, which is ultimately what investors are interested in.

Furthermore, FCF can be used to assess the value of a company. By comparing the free cash flow of a company with its market capitalisation (the total value of all its shares), investors can determine whether the company is overvalued or undervalued. This can help them make informed decisions about whether to buy, hold, or sell the company's shares.

In addition, FCF is a crucial factor in determining a company's ability to pay dividends. If a company has a positive free cash flow, it means it has enough cash left over after all expenses to distribute to shareholders. On the other hand, a negative free cash flow could indicate that the company is struggling to generate enough cash, which could potentially lead to financial difficulties in the future.

In conclusion, free cash flow is a vital tool for investors to evaluate a company's financial health, profitability, and value. It provides a clear picture of a company's cash generating ability, which is crucial for making informed investment decisions.