Two important questions to ask before you buy China Telecom Corporation Limited (HKG:728) is, how it makes money and how it spends its cash. What is left after investment, determines the value of the stock since this cash flow technically belongs to investors of the company. Today we will examine 728’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.
What is free cash flow?
Free cash flow (FCF) is the amount of cash China Telecom has left after it pays off its expenses, including its net capital expenditures, which is what the company needs to spend each year to maintain or grow its business operations.
The two ways to assess whether China Telecom’s FCF is sufficient, is to compare the FCF yield to the market index yield, as well as determine whether the top-line operating cash flows will continue to grow.
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
The business reinvests all its cash profits as well as borrows more money, to maintain and grow the company. This leads to a negative FCF, as well as negative FCF yield, in which case is not a very useful measure.
Is China Telecom’s yield sustainable?
China Telecom’s FCF may be negative today, but is operating cash flows expected to improve in the future? Let’s examine the cash flow trend the company is anticipated to produce over time. In the next couple of years, the company is expected to grow its cash from operations at a double-digit rate of 30%, ramping up from its current levels of CN¥100.2b to CN¥129.8b in three years’ time. Furthermore, breaking down growth into a year on year basis, 728 is able to increase its growth rate each year, from -1.6% in the upcoming year, to 25% by the end of the third year. The overall picture seems encouraging, should capital expenditure levels maintain at an appropriate level.
Keep in mind that cash is only one aspect of investment analysis and there are other important fundamentals to assess. I recommend you continue to research China Telecom to get a more holistic view of the company by looking at:
- Valuation: What is 728 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 728 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 China Telecom’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 past 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. For errors that warrant correction please contact the editor at firstname.lastname@example.org.