Free cash flow
Cash left after a business pays operating expenses and capital spending. FCF pays dividends, buybacks, and reduces debt. Earnings can be massaged; FCF is harder to fake.
Free cash flow is an important measure that helps investors understand how much cash a company actually generates after it has met its financial obligations. To put it in simpler terms, if a business makes ₦100 million in a year, but spends ₦60 million on running costs and another ₦20 million on new equipment and assets, the remaining ₦20 million is its free cash flow. This leftover cash is crucial because it's what the company can use to return money to investors through dividends, buy back its own shares, or pay down debt.
For example, if you own shares in a Nigerian company listed on the Nigerian Exchange (NGX) like MTN Nigeria, understanding the company's free cash flow can help you decide whether it's in a good position to pay dividends. If MTN Nigeria has a healthy free cash flow, you might expect a steady or even growing dividend. On the other hand, if its free cash flow is negative or low, that could mean the company is struggling and might cut or even suspend dividends.
In Nigeria, where the Central Bank of Nigeria (CBN) sets the Monetary Policy Rate (MPR) at around 27.50%, investors are always looking for ways to maximize returns. Free cash flow is a key metric here because it shows the true financial health of a company. For instance, if you're considering investing in Treasury bills (T-bills), you might also look at the free cash flow of companies you're interested in to gauge their ability to sustain returns.
When it comes to dividends, Nigerian investors should be aware of the 10% Withholding Tax (WHT) on dividend income. If a company like Julius Berger has a high free cash flow, it might use some of that cash to pay dividends, which are then taxed at 10%. Additionally, the 10% Capital Gains Tax (CGT) applies when you sell shares at a profit. Knowing a company's free cash flow helps you plan for these taxes and understand the net income you can expect.
Why it matters: Understanding free cash flow helps Nigerian investors make more informed decisions about where to put their money. It provides a clearer picture of a company's financial health beyond what's reported in earnings. This knowledge can be particularly useful in a market where companies may sometimes report earnings that don't fully reflect their true financial situation. By focusing on free cash flow, investors can better assess whether a company is in a strong position to deliver sustainable returns, pay dividends, and manage debt, all of which are crucial for long-term investment success.