Two important questions to ask before you buy Tetra Tech Inc (NASDAQ:TTEK) 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. I will take you through TTEK’s cash flow health and the risk-return concept based on the stock’s cash flow yield, using the most recent financial data. This will help you think about the company from a cash perspective, which is a crucial factor to investing.
What is Tetra Tech’s cash yield?
Tetra Tech generates cash through its day-to-day business, which needs to be reinvested into the company in order for it to continue operating. What remains after this expenditure, is known as its free cash flow, or FCF, for short.
The two ways to assess whether Tetra Tech’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
Tetra Tech’s yield of 3.59% indicates its sub-standard capacity to generate cash, compared to the stock market index as a whole, accounting for the size differential. This means investors are taking on more concentrated risk on Tetra Tech but are not being adequately rewarded for doing so.
Is Tetra Tech’s yield sustainable?
Another important consideration is whether this return is likely to be maintained over the next couple of years. We can gauge this by looking at TTEK’s expected operating cash flows. In the next couple of years, the company is expected to grow its cash from operations at a single-digit rate of 7.7%, increasing from its current levels of US$133.9m to US$144.2m in two years’ time. Although this seems impressive, breaking down into year-on-year growth rates, TTEK’s operating cash flow growth is expected to decline from a rate of 47.4% in next year, to -26.9% in the following year. But the overall future outlook seems buoyant if TTEK can maintain its levels of capital expenditure as well.
Given a low free cash flow yield, on the basis of cash, Tetra Tech becomes a less appealing investment. This is because you would be better compensated in terms of cash yield, by investing in the market index, as well as take on lower diversification risk. However, cash is only one aspect of investing. Keep in mind that cash is only one aspect of investment analysis and there are other important fundamentals to assess. You should continue to research Tetra Tech to get a more holistic view of the company by looking at:
- Valuation: What is TTEK 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 TTEK 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 Tetra Tech’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 email@example.com.