If you are currently a shareholder in Air France-KLM SA (ENXTPA:AF), or considering investing in the stock, you need to examine how the business generates cash, and how it is reinvested. After investment, what’s left over is what belongs to you, the investor. This also determines how much the stock is worth. Today we will examine AF’s ability to generate cash flows, as well as the level of capital expenditure it is expected to incur over the next couple of years, which will result in how much money goes to you. See our latest analysis for Air France-KLM
What is free cash flow?
Air France-KLM’s free cash flow (FCF) is the level of cash flow the business generates from its operational activities, after it reinvests in the company as capital expenditure. This type of expense is needed for Air France-KLM to continue to grow, or at least, maintain its current operations. There are two methods I will use to evaluate the quality of Air France-KLM’s FCF: firstly, I will measure its FCF yield relative to the market index yield; secondly, I will examine whether its operating cash flow will continue to grow into the future, which will give us a sense of sustainability.
Free Cash Flow = Operating Cash Flows – Net Capital Expenditure
Free Cash Flow Yield = Free Cash Flow / Enterprise Value
where Enterprise Value = Market Capitalisation + Net Debt
Along with a positive operating cash flow, Air France-KLM also generates a positive free cash flow. However, the yield of 1.9% is not sufficient to compensate for the level of risk investors are taking on. This is because Air France-KLM’s yield is well-below the market yield, in addition to serving higher risk compared to the well-diversified market index.
Is AF’s yield sustainable?
Can AF improve its operating cash production in the future? Let’s take a quick look at the cash flow trend the company is expected to deliver over time. In the next couple of years, expected growth for AF’s operating cash is negative, with operating cash flows expected to decline from its current level of €2.99B. This is unfavourable to its future outlook, especially if capital expenditure heads the opposite direction. However, breaking down growth into a year on year basis, AF ‘s negative growth rate improves each year, from -11.75% in the upcoming year, to 1.47% by the end of the third year.
Four words – low yield, negative growth. Air France-KLM doesn’t jump out to me as an exciting new investment for you. If you buy the stock, you’re taking on higher risk relative to holding the market index, and further, you are being compensated for less. Keep in mind that cash is only one aspect of investment analysis and there are other important fundamentals to assess. I suggest you continue to research Air France-KLM to get a better picture of the company by looking at:
- Valuation: What is AF worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether AF is currently mispriced by the market.
- Management Team: An experienced management team on the helm increases our confidence in the business – take a look at who sits on Air France-KLM’s board and the CEO’s back ground.
- Other High-Performing Stocks: If you believe you should cushion your portfolio with something less risky, scroll through our free list of these great stocks here.
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned.