The Free Cash Profile assumes that a firm’s current mix of operating cushion, operating working capital, capital expenditures, and taxes paid, all as percentages of revenue, remains unchanged. That assumption “helps anticipate future cash flows by assuming that things like margins, receivables requirements, and inventory requirements are not going to change,” says Mulford. “A good starting point for any forecast is a steady state.”
Despite the lab’s finding that the typical company throws off at least some free cash flow as it grows, not every company can expect to fund its own growth with the cash that growth generates. Eighteen industries, or 40% of the sample, had negative Free Cash Profiles. But even in those industries, there are many firms with positive profiles.
“The firms with positive Free Cash Profiles enjoy higher operating cushions and are more adept at managing operating working capital and limiting capital spending than firms with negative profiles,” says the lab’s report.
Looking at the current scene, Mulford has particular admiration for Apple. The company, he observes, has generated so much cash as it has grown that it’s drawn complaints from investors wanting some of that cash back. Recently, Google has shown to be particularly adept at generating cash as it grows, just as the slower-growing Microsoft once excelled. But unlike those two companies, Apple is a manufacturer with all the working capital requirements implied by that — yet it’s still able to amass a huge cash hoard.
If they benchmark their companies’ Free Cash Profiles against those of their peers, CFOs can gauge where their companies are likely to stand in the eyes of the sharpest investors, Mulford says. “If you look at the investments that Warren Buffett likes, they tend to be companies with positive Free Cash Profiles, he says. “Not that he’s used that term, but he knows how to find investments that can generate cash and grow at the same time.”