Evaluating Companies With Negative Cash Flow Investments

Understanding why a company might have a negative cash flow from investing activities can be challenging to investors who are unfamiliar with how to interpret a cash flow statement. In some cases, having negative cash flow investments could be a warning sign that management is not efficient at using the company's assets to generate revenue. However, it could also be a positive sign that management is positioning the company for future growth. In this article, we discuss how to evaluate companies with negative cash flow investments and provide an example for review.

Key Takeaways

  • If a company has a negative cash flow from investing activities, it will appear on the cash from investing activities section of their cash flow statement.
  • The cash flow statement is important because it measures how well a company's management generates cash to pay debts and fund operating expenses.
  • A company might have a negative cash flow from investing activities because management is investing in long-term assets that should help the company's future growth.
  • To decide if a company's negative cash flow from investing activities is a positive or negative sign, investors should review the entire cash flow statement for more information.

The Cash Flow Statement

Cash flow from investing activities is one of the three sections of a company's statement of cash flows. The cash flow statement is a financial statement that summarizes the amount of cash and cash equivalents (CCE) entering and leaving a company. 

The cash flow statement (CFS) measures how well a company manages its cash position, meaning how well the company generates cash to pay its debt obligations and fund its operating expenses. The cash flow statement complements the balance sheet and income statement.

The 3 main components of the cash flow statement are as follows:

  1. Cash from operating activities
  2. Cash from investing activities
  3. Cash from financing activities

Cash From Investing Activities

Investing activities include any outflows of cash or sources of cash from a company's investments. A purchase or sale of an asset, cash out due to a merger or acquisition, loans made, or loan proceeds received are all included in investing activities. In short, any changes in assets, investments, or equipment will impact cash from investing activities. However, when a company divests an asset, the transaction is considered a credit or "cash in" and is listed in investing activities.

Although companies and investors usually want to see positive cash flow from all of a company's operations, having negative cash flow from investing activities is not always bad. To make an evaluation of a company's investing activities, investors need to review the company's particular situation in greater detail.

It's entirely possible and not uncommon for a growing company to have a negative cash flow from investing activities. For example, if a growing company decides to invest in long-term fixed assets, it will appear as a decrease in cash within that company's cash flow from investing activities.

Even well-established companies make investments in long-term assets such as property and equipment from time to time. This might cause investing activities to go negative. 

Real World Example of Negative Cash Flow Investments

For example, below is the cash flow statement from Exxon Mobil (XOM) as of March 31, 2018. Here are important points to consider:

  • We can see that net cash used in investing activities was -$1.859 billion for the period (highlighted in green).
  • The two primary drivers for the negative investing activities number were the purchase of property, plant, and equipment (PP&E) for $3.349 billion and the sale of assets crediting cash for $1.441 billion.
  • However, cash from operating activities (in blue) totaled $8.519 billion and is more than enough cash to pay for the investment in fixed assets.
Exxon Mobil condensed consolidated statement of cash flows, March 2018

What the Numbers Mean

At first glance, an investor might be concerned about negative cash flow in investing activities totaling over $1.8 billion. However, when we delve into the numbers, we can see it's a positive sign. Exxon Mobil is an oil and gas producer and needs to update its equipment, drilling rigs, and purchase equipment periodically. As a result, the negative cash flow from investing means the company is investing in its future growth.

On the other hand, if a company has a negative cash flow from investing activities because it's made poor asset-purchasing decisions, then the negative cash flow from investing activities might be a warning sign. 

The Bottom Line

It's important to analyze the entire cash flow statement and all its components to determine if the negative cash flow is a positive or negative sign. The most effective way to evaluate a negative cash flow situation is to calculate a company's free cash flow. Free cash flow is the money the company has left after paying for capital expenditures (CapEx) and operating expenses. This is an important metric for investors because it shows how effective a company's management is at generating cash.

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