Southern Company, a large-cap Electric Utilities company, moved 0.2 during today's afternoon session. The company's business is fundamentally profitable, as its average operating margins stand at 22.0%. But a profitable business does not always translate into value creation for the company's equity investors.
Investors should review the company's profitability, and also its ability to convert these profits into hard cash. Some profitable companies struggle in this respect. For example, an unexpected increase in capital expenditures, or an inability to collect payments from customers can quickly empty a company's coffers despite healthy profits on paper. Let's compare Southern Company's operating profits and cash flows side-by-side to see this process firsthand.
|Date Reported||Total Revenue ($)||Operating Expenses ($)||Operating Margins (%)||YoY Growth (%)|
|Date Reported||Cash Flow from Operations ($)||Capital expenditures ($)||Free Cash Flow ($)||YoY Growth (%)|
Southern Company's margins may be growing at an average rate of 2.8%, but its free cash flows are shrinking at an average rate of -17.9%. Operating cash flow is the money coming in from the business, and free cash flow results from the subtraction of capital expenditures, which is just another way of saying "long term investments in the business." These investments are accounted for in the income statement as depreciation expenses.
Understanding the relationship between income and cash flows will help you choose stocks of truly valuable businesses -- not just the ones with creative accountants.