A company's free cash flow is important because it is a key indicator of its ability to generate additional revenue, and it is a critical component of stock pricing.
The free cash flow scale rate is calculated as follows:
Free Cash Flow Rate = Market Capital Value / Total Free Cash Flow Amount
For example, a company with total operating cash flow of $ 100 million and $ 50 million in capital expenditures has a total free cash flow of $ 50 million. If a company's market cap is $ 1 billion, then the company's stock trades at 20 times its free cash flow - $ 1 billion / $ 50 million.
How investors use price to liberalize the cash flow metric
Since price to free cash flow is a measure of value, low numbers generally indicate that the company is undervalued and its inventory is relatively cheap with respect to free cash flow. Conversely, a higher price of the free cash flow numbers may indicate that the company's inventory is relatively overstated with respect to free cash flow. Therefore, value investors prefer companies with lower or decreasing prices to liberalize cash flow values that indicate a rise or increase in total free cash flow and relatively low stock prices. They tend to avoid higher priced firms to liberalize cash flow values which indicate that the company's share price is relatively high compared to free cash flow. In short, the lower the price to free cash flow, the more a company's shares are considered a better bargain or value.
As with any equity rating scale, it is best to compare the firm's price to free liquidity ratio with that of other similar firms in the same industry. However, a free cash flow measure price can also be viewed on a long-term time frame to see if the company's cash flow to share price value is generally improving or getting worse.
The price to free cash flow ratio can be affected by companies manipulating the free cash flow statement in the financial statements, by doing things like conserving cash by deferring the purchase of inventory until after the period covered by the financial statement.
Price-to-free cash flow is an equity appraisal measure used to compare the market price per share of a company with the amount of free cash flow per share (FCF). This metric is very similar to the price evaluation scale for cash flow, but it is considered a more accurate measure, since it uses free cash flow, which subtracts capital expenditures (CAPEX) from the company's total operating cash flow, and thus reflects the actual cash flow available to finance growth that is not related to assets. Companies use this metric when they need to expand their asset bases either in order to grow their business or simply to maintain acceptable levels of free cash flow.