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Two important questions to ask before you buy National Express Group PLC (LON:NEX) is, how it makes money and how it spends its cash. After investment, what’s left over is what belongs to you, the investor. This also determines how much the stock is worth. Today we will examine NEX’s ability to generate cash flows, as well as the level of capital expenditure it is expected to incur over the next couple of years, which will result in how much money goes to you.
What is free cash flow?
National Express Group’s free cash flow (FCF) is the level of cash flow the business generates from its operational activities, after it reinvests in the company as capital expenditure. This type of expense is needed for National Express Group to continue to grow, or at least, maintain its current operations.
The two ways to assess whether National Express Group’s FCF is sufficient, is to compare the FCF yield to the market index yield, as well as determine whether the top-line operating cash flows will continue to grow.
Free Cash Flow = Operating Cash Flows – Net Capital Expenditure
Free Cash Flow Yield = Free Cash Flow / Enterprise Value
where Enterprise Value = Market Capitalisation + Net Debt
National Express Group’s yield of 5% indicates its sub-standard capacity to generate cash, compared to the stock market index as a whole, accounting for the size differential. This means investors are taking on more concentrated risk on National Express Group but are not being adequately rewarded for doing so.
Is National Express Group's yield sustainable?
Can NEX improve its operating cash production in the future? Let’s take a quick look at the cash flow trend the company is expected to deliver over time. Over the next couple years, the company is expected to grow its cash from operations at a double-digit rate of 40%, ramping up from its current levels of UK£307m to UK£428m in three years’ time. Although this seems impressive, breaking down into year-on-year growth rates, NEX's operating cash flow growth is expected to decline from a rate of 29% in the upcoming year, to 5.8% by the end of the third year. However the overall picture seems encouraging, should capital expenditure levels maintain at an appropriate level.
Low free cash flow yield means you are not currently well-compensated for the risk you’re taking on by holding onto National Express Group relative to a well-diversified market index. However, the high growth in operating cash flow may change the tides in the future. Keep in mind that cash is only one aspect of investment analysis and there are other important fundamentals to assess. You should continue to research National Express Group to get a better picture of the company by looking at:
- Valuation: What is NEX worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether NEX is currently mispriced by the market.
- Management Team: An experienced management team on the helm increases our confidence in the business – take a look at who sits on National Express Group’s board and the CEO’s back ground.
- Other High-Performing Stocks: If you believe you should cushion your portfolio with something less risky, scroll through our free list of these great stocks here.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.