FCF yield vs. P/E
FCF yield is the inverse of price-to-cash-flow. A 7 percent FCF yield is roughly equivalent to a price-to-FCF multiple of 14. FCF yield is harder to game than earnings-based P/E.
Definition
What is FCF yield?
Free cash flow yield is annual free cash flow divided by market capitalization, expressed as a percent. It is the cash yield an investor earns on the share price at purchase, directly comparable to a bond yield. A 7 percent FCF yield means 7 dollars of distributable cash per 100 dollars of market value.
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Short answer
FCF yield is the bond-investor's way of looking at a stock. If you bought the entire company outright at today's market cap, the FCF yield is the cash return you would receive in year one. It strips out accounting noise and answers a question bond investors ask reflexively: what is the coupon on this asset?
How FCF yield compares to other multiples
FCF yield vs. dividend yield
Dividend yield is what management chose to pay out; FCF yield is everything they could pay out. Big gap between the two signals reinvestment or balance-sheet building.
FCF yield vs. bond yield
Compare FCF yield to the ten-year Treasury. A stock with a 6 percent FCF yield trading against a 4 percent Treasury yield carries a 2-point equity risk premium.
A worked example
Take a mid-cap industrial producing 800 million dollars of free cash flow with a market cap of 10 billion dollars. FCF yield is 800 divided by 10,000, or 8 percent. Compare that to the ten-year Treasury at 4 percent and the equity risk premium is 4 percentage points. If FCF grows at 3 percent annually, the total return profile competes with high-quality corporate bonds at materially lower interest rate sensitivity.
invest-like surfaces FCF yield inside the valuation pillar; see /methodology/.
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Related
- What is a good FCF yield? - the benchmark ranges, by growth stage and rate environment.
- How to calculate FCF yield - the formula, the inputs, and a worked example with a live calculator.
- FCF yield vs P/E ratio - why the cash-based gauge is harder to game than accounting earnings.
- Buffett-Fit methodology - FCF yield drives the Buffett-Fit valuation pillar, benchmarked against the ten-year Treasury.
- Top Buffett-fit stocks today - the live ranking of US-listed stocks with the most attractive FCF yields against Buffett's rubric.
See FCF yield on a real verdict
Every Buffett-Fit verdict on invest-like reports current FCF yield against the ten-year Treasury benchmark.
Educational only. invest-like is not a registered investment adviser; nothing here is personalised investment advice. Always do your own research and consider your individual circumstances.