Understanding Price to Free Cash Flow: Meaning, Applications, and Computation

Understanding Price to Free Cash Flow Ratio

The Price to Free Cash Flow (P/FCF) ratio is a vital equity valuation metric used to assess a company’s per-share market price in relation to its free cash flow (FCF). This metric, similar to the price to cash flow ratio, is more precise as it incorporates free cash flow, which adjusts for capital expenditures (CAPEX) from a company’s total operating cash flow. By doing so, it accurately reflects the actual cash available for non-asset-driven growth initiatives.

Companies leverage this metric to make informed growth decisions and ensure sustainable levels of free cash flow.

Key Points to Note:

• The P/FCF ratio indicates a company’s operational sustainability, calculated by dividing its market capitalization by free cash flow.
• A lower P/FCF value, relative to competitors, signifies an undervalued company with comparatively low-priced stock.
• Conversely, a higher P/FCF value, relative to competitors, suggests an overvalued stock.
• This ratio aids in evaluating a company’s stock value against its cash management practices over time.

Delving Deeper into the Price to Free Cash Flow Ratio

A company’s free cash flow is a critical indicator of its ability to generate additional revenues, playing a pivotal role in stock pricing.

To calculate the P/FCF metric:

Price to FCF = Market Capitalization / Free Cash Flow














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Price to FCF


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Free Cash Flow











Market Capitalization




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For instance, if a company has total operating cash flow of $100 million and capital expenditures of $50 million, the free cash flow totals $50 million. With a market cap of $1 billion, the ratio is 20, suggesting the stock trades at 20 times its free cash flow ($1 billion / $50 million).

An example scenario could be a market cap of $102 million and free cash flows of $110 million, resulting in a ratio of 0.93. Any deviations from industry norms should ring alarm bells and prompt further investigation to comprehend the company’s valuation.

Unusual free cash flow or market cap levels relative to industry benchmarks warrant exploration as they could indicate financial distress or hidden value.

Practical Applications of the Price to Free Cash Flow Ratio

The P/FCF ratio, being a value metric, signifies undervaluation when lower, emphasizing a relative affordability of the stock in terms of free cash flow. Conversely, higher values may signal overvaluation.

Therefore, value investors prefer low or decreasing P/FCF values, indicative of rising free cash flow and competitively priced stocks within the industry.

Comparing this ratio against past data, competitor ratios, or industry standards provides a frame of reference for assessing value.

Conversely, high P/FCF values hint at inflated stock prices compared to free cash flow, steering investors away from such companies.

As with any valuation metric, comparing a company’s P/FCF to industry peers is most informative, while long-term observation can reveal trends in cash flow efficacy.

Potential Manipulations of the Ratio

Companies can influence the P/FCF ratio; for instance, by deferring certain expenditures to present stronger financial figures. Therefore, comprehensive financial analysis is crucial to unveil the actual financial health of a company.

Regular analysis over multiple reporting periods uncovers how a company manages its cash, offering insights into its financial stability and investor appeal.

What Constitutes a Strong Price to Free Cash Flow Ratio?

A favorable P/FCF ratio points towards an undervalued stock. Companies need to juxtapose their P/FCF metrics against industry peers to gauge their standing in terms of stock valuation. Typically, a lower ratio often implies affordability of the stock.

Is a High Price to Free Cash Flow Ratio Desirable?

An elevated ratio, above industry norms, may signify an overvalued stock that warrants caution.

Is Price to Cash Flow Equivalent to Price to Free Cash Flow?

While price to cash flow considers all cash holdings of a company, price to free cash flow excludes capital expenditures, working capital, and dividends. Consequently, it offers a clearer view of a company’s operative sustainability by evaluating how much leftover cash can fund its stock price.