Mumbai: The free cash flows (FCFs) of Indian firms have turned positive for the first time after the financial crisis in fiscal 2009, with profits increasing and companies paring back on capital expenditure, says a new report from Citigroup Global Markets Inc., the brokerage and securities division of the global bank by the same name.
FCFs, a critical metric in measuring a firm’s financial performance, are also expected to rise sharply over the next three years, by up to five times, said the report, which looked at 118 of the top Indian firms, excluding those in the finance business.
Free cash flow refers to the cash that a company is able to generate after spending whatever is required to maintain or expand its asset base. It is important because a positive free cash flow means that a company has enough cash to pursue opportunities that might increase shareholder value.
Over the next three years, FCFs will rise as operating cash flows, or cash from business operations, rise by as much as 44% over the next two years, the Citi report said. This will outstrip the 0.8% rise or flat increases in capital expenditure of firms, wrote Citi’s research analysts Aditya Narain and Tirthankar Patnaik.
Positive free cash flows mark a turning point for Indian companies, since for most of the past five years, free cash flows for these set of firms were negative. However, a negative figure is not bad in the context of the economic growth at the time, as firms increased capital expenditure to build capacity.
The primary driver for increase in free cash flow would be growth. Citi said that profit growth should be strong and steady, with operating cash flow growth generation even stronger, as the economic recovery holds, and India pushes for 10% growth in the gross domestic product.
The energy sector will likely dominate cash generation among the major companies, the report said, because of the increase in money flows from petrochemicals giant Reliance Industries Ltd, or RIL, India’s most valuable firm, as the refining cycle turns and it ramps up production in its Krishna-Godavari basin’s D-6 gas block.
“RIL will generate about $25 billion (around Rs1.12 trillion) of excess cash (after committed capital expenditure)” during fiscal years 2011-14, wrote Nilesh Banerjee and Nishant Baranwal, research analysts at the Indian equities arm of Goldman Sachs in a 2 March note.
But with corporate capital expenditure expected to go up, especially with the government’s thrust on 10% growth, higher free cash flows could reduce firms’ dependence on capital markets in the next few years.
“Corporate capex is subdued, but could rise with confidence/capital availability,” wrote Citi’s Narain and Patnaik.