How to Evaluate Companies With Negative Cash Flow Investments (2024)

Understanding why a company has a negative cash flow from investing activities can be a challenge. It could be a warning sign that the company's management is not efficiently using its assets to generate revenue. But it might also be a positive sign that management is positioning the company for future growth.

You can tell which it is by taking a close look at the company's cash flow statement.

Key Takeaways

  • If a company has a negative cash flow from investing activities, it will appear on the cash from investing activities section of their cash flow statement.
  • The cash flow statement indicates how well a company's management generates cash to pay its debts and fund its operating expenses.
  • A company might have a negative cash flow from investing activities because management is investing in long-term assets that should help its future growth.
  • To decide if a company's negative cash flow from investing activities is a positive or negative sign, investors should review the entire cash flow statement.

The Cash Flow Statement

Cash flow from investing activitiesis one of the threesections that make up a company's statement of cash flows. This part of its financial report summarizes the amount ofcash and cash equivalents(CCE) entering and leaving a company during a stated period.

The cash flow statement complementsthebalance sheetandincome statement.

The cash flow statement (CFS)reports how the company uses the money it takes in from its operations. The main components of the cash flow statement are:

  • Cash from operating activities
  • Cash from investing activities
  • Cash from financing activities

Cash From Investing Activities

The investing activities section includes any outflows of cash or sources of cash from a company's investments. A purchase or sale of an asset, cash out due to a merger or acquisition, loans made, or loan proceeds received are all included.

In short, any changes in assets, investments, or equipment will be accounted for in investing activities. When a company divests an asset, the transaction is considered a credit or "cash in" and is listed in investing activities.

Interpreting Negative Cash Flow

Companies and investors naturally like to see positive cash flow from all of a company's operations, but having negative cash flow from investing activities is not always bad. To make an evaluation of a company's investing activities, investors need to review the company's particular situation in greater detail.

It's not uncommon for a growing company to have a negative cash flow from investing activities. For example, if a growing company decides to invest in long-term fixed assets, it will appear as a decrease in cash withinthat company's cash flow from investing activities.

Even well-established companies makeinvestments in long-term assets such as property and equipment from timeto time. This might cause investing activities to go negative for the period.

Real World Example of Negative Cash Flow Investments

For example, below is the cash flow statement from Exxon Mobil (XOM). Here are some important points to consider:

  • We can see that net cash used in investing activities was-$1.859 billion for the period (highlighted in green).
  • Thetwo primary drivers for the negative investing activities number were the purchase of property, plant, and equipment (PP&E) for$3.349 billion and the sale of assetscrediting cash for $1.441 billion.
  • However, cash from operating activities (in blue)totaled $8.519 billion and is more than enough cash to pay for the investment in fixed assets.

How to Evaluate Companies With Negative Cash Flow Investments (1)

What the Numbers Mean

In this example, an investor might be concerned about negative cash flow in investing activities to the tune of $1.8 billion.

However, when we delve into the numbers, we can see it's a positive sign.Exxon Mobil is an oil and gas producer. It needsto update its equipment like drilling rigs, and it needs to purchase equipment periodically. As a result, the negative cash flow from investing meansthe company is investing in its future growth.

If a company has a negative cash flow from investing activities because it hasmade poor decisions, the negative cash flow from investing activities might be a warning sign.

What Does a Cash Flow Statement Reveal?

A company's cash flow statement can reveal what phase the business is in. Is it an early startup, eager to grow its business quickly? Its cash flow statement may reveal that it's purchasing the facilities or equipment that it needs to ramp up. Is it a mature business? It may be developing new lines of business or acquiring rivals. If the business isn't doing much but treading water, that may be revealed by the cash flow statement as well.

How Is Cash Flow from Operating Activities Calculated?

There are two methods of calculating cash flow from operating activities:

The direct method: Take the sum of all cash collections from operations and subtract all of the cash disbursem*nts from operations.

The indirect method: Start with total net income and adjust it to subtract the impact of the accruals made during the reporting period, such as depreciation and amortization.

Either method will result in the same number.

Both of these methods comply with Generally Accepted Accounting Principles (GAAP).

Can a Company Be Profitable and Have Negative Cash Flow?

Yes, a profitable company can have negative cash flow. Negative cash flow is not necessarily a bad thing, as long as it's not chronic or long-term. A single quarter of negative cash flow may mean an unusual expense or a delay in receipts for that period. Or, it could mean an investment in the company's future growth.

It's up to the investor to decide whether the investments listed under "cash flow investments" are worthy uses of the company's cash.

The Bottom Line

It's important to analyze the entire cash flow statement and all itscomponents to determine if the negative cash flow is a positiveor negative sign.

The most effective way to evaluate a negative cash flow situationis to calculatea company's free cash flow. Free cash flow is the money the company has left after paying for capital expenditures (CapEx) and operating expenses.

This is an important metric for investors because it shows how effective a company's management is at generating cash.

How to Evaluate Companies With Negative Cash Flow Investments (2024)


How to Evaluate Companies With Negative Cash Flow Investments? ›

The most effective way to evaluate a negative cash flow situation is to calculate a company's free cash flow. Free cash flow is the money the company has left after paying for capital expenditures (CapEx) and operating expenses.

What happens if investing cash flow is negative? ›

Negative cash flow is often indicative of a company's poor performance. However, negative cash flow from investing activities might be due to significant amounts of cash being invested in the long-term health of the company, such as research and development.

Could a firm with negative free cash flow still be highly valued by investors? ›

Would it be possible for a company to report negative free cash flow and still be highly valued by investors; that is, could a negative free cash flow ever be viewed optimistically by investors? Explain your answer. Yes. Negative free cash flow is not necessarily bad.

What should a business do if it has a negative cash flow? ›

Negative cash flow isn't necessarily a bad thing if you're following a plan. However, you want to avoid running out of cash entirely. To avoid this situation or simply to improve your business cash flow, you may want to consider exploring available business funding sources.

Can you use DCF with negative cash flow? ›

To deal with negative cash flows in DCF analysis, you need to do two things: project them accurately and discount them appropriately. Projecting negative cash flows accurately requires a realistic assessment of the business's performance, growth potential, and cash conversion cycle.

How do you analyze negative cash flow? ›

One can conduct a basic cash flow analysis by examining the cash flow statement, determining whether there is net negative or positive cash flow, pinpointing how the outflows compare to inflows, and draw conclusions from that. However, there is no universally-accepted definition of cash flow.

In which stages would you typically expect to see large negative investment cash flows? ›

During the startup phase of a business, it is normal to see negative operating cash flows, negative investing cash flows and positive financing cash flows. The startup will be obtaining financing cash to start the business and will be using these funds to make investments for the future of the business.

Can a company be profitable with negative cash flow? ›

A business could make net profit while having negative cash flow. Earning revenue does not necessarily mean that the company has received cash immediately. The actual movement of cash may happen later. For instance, a company sold goods and accrued profit on the income statement but did not receive the money yet.

How do you value a company that is losing money? ›

One of the simplest methods to value a business with no profits is to look at its assets. This means adding up the value of all the tangible and intangible assets that the business owns, such as property, equipment, inventory, patents, trademarks, and goodwill.

How do you value a company with no cash flow? ›

Asset Based

The value of a company with no future projected cash flow -- but one that does have assets -- would be based on a discounted value of the assets less liabilities. Cash, bonds and stocks are counted at face value. Real estate would be at market value, not the depreciated value.

Is a company with negative cash flow doomed? ›

It can strain the ability to pay bills, meet financial obligations, or invest in growth opportunities. Without intervention, negative cash flow can lead to accumulating debt, cash shortages, and even bankruptcy. However, it's important to note that negative cash flow is not always a sign of impending doom.

Why does Amazon have negative cash flow? ›

Amazon's situation may seem alarming at first but it is only upon deeper analysis that we find out why this is not the case. The major reason behind Amazon's negative cash flow is its high capital expenditures and reliance on debt. However, this is simply because it reinvests its profit rapidly in innovative products.

When would you not use a DCF to evaluate a company? ›

Also, since the very focus of DCF analysis is long-term growth, it is not an appropriate tool for evaluating short-term profit potential. Besides, as an investor, it's wise to avoid being too reliant on one method over another when assessing the value of stocks.

Do you discount negative cash flows in NPV? ›

The idea behind NPV is to project all of the future cash inflows and outflows associated with an investment, discount all those future cash flows to the present day, and then add them together. The resulting number after adding all the positive and negative cash flows together is the investment's NPV.

When would you not want to use a DCF? ›

If the investor cannot estimate future cash flows or the project is very complex, DCF will not have much value and alternative models should be employed. For DCF analysis to be of value, estimates used in the calculation must be as solid as possible.

Can you get a negative cash flow? ›

To put it simply, negative cash flow occurs when there is more cash paid out by a business than the cash it receives. It's essential for business owners to create a cash flow statement, a financial document that tracks the flow of cash in and out of your business.

What does investing cash flow mean? ›

Cash flow from investing activities includes any inflows or outflows of cash from a company's long-term investments. The cash flow statement reports the amount of cash and cash equivalents leaving and entering a company. The sections of the cash flow statement are: Cash from operating activities.

Can cash flow per share be negative? ›

Yes, the cash flow per share can be negative.

What does a decrease in investing activities mean? ›

Negative cash flow from investing activities means that a company is investing in capital assets. As the valuation of those assets grows, they increase the net cash flow available to the company over time.

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