Essay Example on Free cash flow is the excess cash flow from operating Activities









Free cash flow is the excess cash flow from operating activities less capital expenditure Jesen 1986 Company may use free cash flow to invest and upgrade the existing assets in order to maintain its survival in operation and generate future revenue for company growth However overinvestment will bring company to go bankruptcy Investors not only rely on financial ratio to analysis the performance of the company they also need to evaluate the management how to use internal operating cash flow to improve company value 1 2 Research Objective There were many researches to investigate the relationship between free cash flow and performance of listed companies in difference countries such as Taiwan Wang 2010 Tehran Heydari et al 2014 Karachi Ambreen and Aftab 2016 The objective of this research tries to make investors have better understanding in the relationship between free cash flow and the performance of Hong Kong listed company at the Hong Kong Stock Exchange The performance of the company can be analysis with the company financial ratio The most common financial ratio analysis are profitability liquidity solvency and operating efficiency This research objective is to find out the relationship between the free cash flow and the company's financial performance Whether the companies can use the free cash flow effectively to increase company's profitability and provide a return on shareholders investment Ambreen Afrab 2016 Whether the company's financial flexibility meet its financial obligation on a timely basis in unexpected changes of its free cash flow Kangarlouei et al 2014 

Whether the company's operating efficiency with the direct effect of free cash flow to generate revenues and profits Heydari et al 2014 Investors need to understand how the company to manage internal cash flow to reduce the financial risk in order to achieve better profit and good performance in the company investment This research will study the relationship of Free cash flow theory to the companies performance in the area of profitability liquidity solvency and operating efficiency Investors can have more information to obtain different dimensions when make the financial decision on their investment 1 3 Value of the Study The findings of this study will provide more knowledge and have a good insight for investors have better understanding in free cash flow and the financial performance on their investment in Hong Kong Both the company financial ratio and free cash flow are critical analysis for company survival and success It provides valuable financial information to investor to make a suitable investment decision 2 Preliminary Literature Review 2 1 Literature review The first theory of free cash flow was introduced by Jensen in 1986 According to Jensen 1986 free cash flow defined as the operating cash flow which is deducted all necessary cash expenses and the remaining cash flow is actually free cash flow It required to fund all projects with positive net present values at the relevant discounted cost of capital 

Company generated high amount of free cash flow the conflicts of interest between shareholders and managers were severe for the agency problem Managers tended to reinvest the free cash flow in firm or in personal interest instead of distribute the dividend to shareholder in order to reduce their control in company Baskin 1989 performed the empirical investigation of the Pecking Order Hypothesis and suggested that companies prefer to finance investment in optimal capital structure first to use the internal fund then with debt and finally with the issue of new equity based on the understanding of information asymmetry and corporate rational behavior The company used free cash flow to pay fund for company investment research and development expenditure in order to enhance the efficiency and probability of survival Richardson 2006 Ambreen Afrab 2016 studied the relationship between Free cash flow and profitability of the listed company in Karachi Stock Exchange The study concluded that the growth of the company had major impact on free cash flow available in the company Profitable company didn't mean it can conduct business very well Company could be go bankrupt when it had cash flow problems The research finding from Heydari et al 2014 showed that there was negative meaningful relationship between free cash flow and company performance from return on assets ratio and return on equity ratio The analysis showed that even the company had large amount of free cash flow the company managers bad used of the money in investment which cannot increase income and profits to stockholders return due to agency problem However in the research from Wang 2010 analysed that there was a positive meaningful relationship between free cash flows and Taiwan company performance providing lack of evidence to support the free cash flow hypothesis 

On one hand free cash flow and agency cost had significant inverse impact on the operating performance firm value and stock return On the other hand free cash flow could provide the company investment opportunities to generate company value and lead to a better performance with the internal operating efficiency by management Chen et al 2011 suggested that good corporate governance provided more shareholder control and reduced the cost of equity It could mitigate the agency problem of free cash flow controlled by management and improve the performance of the company Kangarlouei et al 2014 and Vakilifard Shammoradi 2014 showed that free cash flow had a positive significant impact on the financial flexibility and stock return in the listed company in Tehran Stock Exchange 2 2 Research approaches or methods There are many research approaches used by other paper The commonly used were descriptive statistics survey and correlation Ambreen and Aftab 2016 Wang 2010 The descriptive survey good to describe data and characteristics about population or phenomena in the research studied Collis and Hussey 2014 Correlation is a measure of the direction and strength of the relationship between two quantitative variables which can be positive or negative linear or nonlinear Collis and Hussey 2014 The method is very straightforward and easy to understand for the readers

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