Cash Flow Statement: Analyzing Cash Flow From Investing Activities

The cash flow statement is one of the most revealing documents of a firm’s financial statements, but it is often overlooked. It shows the sources and uses of a company’s cash, both incoming and outgoing. Various sections of a company’s cash flow statement contribute to the overall change in the company’s cash position. Cash flow from investing activities is one of three primary categories in the cash flow statement.

In many cases, a firm may have a negative overall cash flow for a given quarter. If the company cannot generate positive cash flow from its business operations, a negative overall cash flow is not necessarily a bad thing.

An item on the cash flow statement belongs in the investing activities section if it is the result of any gains (or losses) from investments in financial markets and operating subsidiaries. An investing activity also refers to cash spent on investments in capital assets such as property, plant, and equipment, which is collectively referred to as capital expenditure, or CAPEX.

Below is a more comprehensive list of cash flows that can stem from a firm’s investing activities:

• Proceeds from disposal of property, plant, and equipment
• Cash receipts from the disposal of debt instruments of other entities
• Receipts from sale-of-equity instruments of other entities

• Payments for acquisition of property, plant, and equipment
• Payments for purchase of debt instruments of other entities
• Payments for purchase of equity instruments of other entities
• Sales/maturities of investments
• Purchasing and selling long-term assets and other investments

Firms with excess capital or financial institutions such as banks and insurance companies will report the buying and selling activity from their investment portfolios in the investing activity portion of the cash flow statement.      

A simple cash flow (of investing activities) for restaurant chain Texas Roadhouse (TXRH):

Immediately, you can observe that the main investing activities for Texas Roadhouse was CAPEX. Texas Roadhouse is growing briskly and spends plenty on CAPEX to open new restaurant locations across the United States. In its 10-K filing with the SEC, the company details that it spends money to remodel existing stores and build new ones, as well as to acquire the land to build on. Overall, CAPEX is an extremely important cash flow item that investors are not going to find in reported company profits.

Texas Roadhouse also strategically buys out franchises and spent $4.3 million in 2012 doing so. Sometimes it may sell restaurant equipment that is outdated or unused, which then brings in cash instead of being an outflow like other CAPEX. This activity amounted to just over $1 million in 2012. 

Analyzing the cash flow statement is extremely valuable because it provides a reconciliation of the beginning and ending cash on the balance sheet. This analysis is difficult for most publicly-traded companies because of the thousands of line items that can go into financial statements. For Texas Roadhouse, its net property and equipment increased by around $34.4 million between 2011 and 2012. Of this amount, the capital expenditure was capitalized (not expensed) on the balance sheet, net of depreciation. The other costs were expensed and reflected on the income statement. With regard to the nearly $4.3 million spent to buy out the franchised restaurants above, here is where it was allocated across the balance sheet:

For a public company, it’s going to be nearly impossible to use the original balance sheet and cash flow statements to determine each item down to the specific dollar amount. With the help of the notes to the financial statements (the above is from Texas Roadhouse’s notes on acquisitions), an interested party can get a good idea of the major items on the investing portion of the cash flow statement and what they mean for a firm’s financial health.

A firm can suffer from spending unwisely on acquisitions or CAPEX to either maintain or grow its operations. A guide for CAPEX is how it relates to depreciation and amortization, which can be found in cash flow from operations on the cash flow statement. This represents an annual charge on past spending that was capitalized on the balance sheet to grow and maintain the business.

For Texas Roadhouse, this amounted to $46.7 million in 2012. The fact that CAPEX was nearly double this amount demonstrates that it is a growth firm. Yet there was little worry about its financial health because it had minimal long-term debt (other than capital leases) and generated an impressive $146 million in operating cash flow for the year to easily cover CAPEX and $29.4 million in stock buybacks for the year (cash flow from financing activity).  

The investing section of the cash flow statement needs to be analyzed along with a firm’s other financial statements. Reviewing CAPEX, acquisitions, and investment activity are some of the most important exercises to see how efficiently a company’s management is using shareholder capital to run its operations.