Several things, for example: I was using the cash conversion ratio of the last year but the 5-year average seems much more appropriate. Otherwise the recommendation: The free cash flow yield should ideally be close to the risk-free rate.
I am working through your book that I purchased. What exactly are deferred obligations? The book doesn't expound on that. Please provide clarity. Thanks in advance!
Deferred obligation refers to obligations that the company will or might have to deal with at a future point. It will not be listed as debt, but it should be accounted for in our analysis (In many cases this is not relevant, but in some it is essential).
Examples of deferred obligations:
- Capital/finance leases
- Delayed funding loans
- Other obligation that commits the Issuer to provide funding
The fcf yield is very interesting,I read some years ago on a book that Buffett thinks this way,he looks at fcf yield and see stocks as a bond ,the diffocult part for him is the certainty of the fcf growt,I think he chose apple for this reason,great moat,great certainty of fcf ,big yield
Yeah, he mentioned this mental model several times in different talks. Comparing the fcf yield (or the fcf available to shareholders) to the yield of a bond makes sense. But the certainty aspect of a bond will always beat a stock. However, the bond yield will never grow, but the free cash flow will if you hold a great and growing company.
I like to use both, but for simplicity sake I had to choose one for this article. Additionally, I think EBITDA often is manipulated, so I like to see the relationship between EBITDA and FCF.
1. Not adament about using EBITDA over net income, but I like to see how much FCF diverges from EBITDA.
2. I would not subtract SBC from debt/FCF because its not a cash expense, so you SBC will not take away cash that you could have paid down your debt with. That said, I think SBC should be subtracted when calculating the FCF yield or owner earnings of a business, because it dilutes shareholders.
3. D/C is useful to use as well to make sure a company is not overlevered or relies on leverage to perform
Thanks for your kind reply, appreciate it!
Well done! Thanks!
I found this post very useful. Thank you
I'm glad. Thanks for your feedback. Anything in particular you found extra useful?
Several things, for example: I was using the cash conversion ratio of the last year but the 5-year average seems much more appropriate. Otherwise the recommendation: The free cash flow yield should ideally be close to the risk-free rate.
Here are few quality, durable growth compounders I picked on my “Monthly Specials” post for November.
https://expansestocks.substack.com/p/monthly-specials-november-2024
I am working through your book that I purchased. What exactly are deferred obligations? The book doesn't expound on that. Please provide clarity. Thanks in advance!
Hi Shivam!
Deferred obligation refers to obligations that the company will or might have to deal with at a future point. It will not be listed as debt, but it should be accounted for in our analysis (In many cases this is not relevant, but in some it is essential).
Examples of deferred obligations:
- Capital/finance leases
- Delayed funding loans
- Other obligation that commits the Issuer to provide funding
The fcf yield is very interesting,I read some years ago on a book that Buffett thinks this way,he looks at fcf yield and see stocks as a bond ,the diffocult part for him is the certainty of the fcf growt,I think he chose apple for this reason,great moat,great certainty of fcf ,big yield
Yeah, he mentioned this mental model several times in different talks. Comparing the fcf yield (or the fcf available to shareholders) to the yield of a bond makes sense. But the certainty aspect of a bond will always beat a stock. However, the bond yield will never grow, but the free cash flow will if you hold a great and growing company.
Why not use net income instead of EBITDA in step 4?
I like to use both, but for simplicity sake I had to choose one for this article. Additionally, I think EBITDA often is manipulated, so I like to see the relationship between EBITDA and FCF.
Can you tell me why TXN FCF was significantly lower the last year?
Hello J P.
Significant boost in growth capex. I'll do an article on Texas Instruments in the near future where I will explain my thesis.
Thanks for sharing! A few inquiries
1- Ref Cash Conversion- Any thoughts why do you prefer to divide by EBITDA instead of Net Income?
2- Ref Net Debt/FCF- Do you subtract SBC from FCF?
I also follow Debt/Capital ratio, making sure it’s <0.50
Thanks again
Hello Isaac,
1. Not adament about using EBITDA over net income, but I like to see how much FCF diverges from EBITDA.
2. I would not subtract SBC from debt/FCF because its not a cash expense, so you SBC will not take away cash that you could have paid down your debt with. That said, I think SBC should be subtracted when calculating the FCF yield or owner earnings of a business, because it dilutes shareholders.
3. D/C is useful to use as well to make sure a company is not overlevered or relies on leverage to perform
I think subtracting SBC for cash conversion ratio is key also, to see how much real FCF is converting
Thank you so much for such an interesting and useful post! Could you explain please what does 'PV(10EBIT' means in your DCF model. Thank you!
It's the discounted value per year.
All of the PV(10EBIT combined = "Present Value Sum"
The value of the cash flow in the row above discounted by our discount rate
I have question about the calculation of cash conversion. In your calculations, you use EBITDA why not use net income after all the expenses are paid?
Your calculation: Cash Conversion: Free cash flow / EBITDA
Thanks Ann
Can you share which sites you use to pull financial data? Thanks!
Merry Christmas to you as well, and thank you for your help!