Two S&P 500 Sectors Have A Rising FCF Yield Through 1H20

This report analyzes[1] free cash flow (FCF), enterprise value and the FCF yield for the S&P 500 and each of its sectors.

For reference, I analyze the core earnings for the entire S&P 500 in “S&P 500 Peaks As Earnings Trough” and for each S&P 500 sector in “Only One S&P 500 Sector’s Core Earnings Improved This Year.” I analyze ROIC and its drivers in “No S&P 500 Sector Has a Rising ROIC Through First Half 2020.”

These reports leverage cutting-edge technology to provide clients with a cleaner and more comprehensive view of every measure of profits[2]. Investors armed with such research enjoy a differentiated and more informed view of the fundamentals and valuations of companies and sectors.

S&P 500 FCF Yield Falls to Lowest Level Since December 2009

FCF yield for the S&P 500 fell from 1.8% at the end of 2019 to 0.8% through 2Q20, or its lowest level since December 2009. See Figure 1. Only two S&P 500 sectors saw an increase in FCF yield since the end of 2019, as I’ll show below.

Figure 1: TTM FCF Yield for the S&P 500 From December 2004 – 8/11/20

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Ranking the S&P 500 Sectors by FCF Yield

Figure 2 ranks all 11 S&P 500 sectors by change in FCF yield from the end of 2019 to 8/11/20.

Figure 2: TTM FCF Yield as of 8/11/20 by Sector

Investors are getting more FCF for their investment dollar in the Consumer Non-cyclicals sector than any other sector. On the flip side, the Telecom Services sector currently has the lowest FCF yield of all S&P 500 sectors.

Only the Consumer Cyclicals and Utilities sectors have seen an increase in FCF yield since the end of 2019.

Details on Each of the S&P 500 Sectors

Figures 3-13 show the FCF yield trends for every sector since 2004.

I present the components of FCF yield, FCF and enterprise value, for the S&P 500 and each S&P 500 sector in Appendix I.

Appendix II provides additional aggregated FCF yield analyses that adjust for company size/market cap.

Basic Materials

Figure 3 shows the FCF yield for the Basic Materials sector increased significantly since mid-2018 even after the COVID-19 induced downturn in 2020. The Basic Materials sector FCF fell from $106 billion at the end of 2019 to $35 billion TTM while enterprise value increased from $778 billion to $966 billion over the same time.

Figure 3: Basic Materials FCF Yield: December 2004 – 8/11/20

Consumer Cyclicals

Figure 4 shows the FCF yield for the Consumer Cyclicals sector has mostly been in a long-term decline since 2010. The Consumer Cyclicals sector FCF improved from -$12 billion at the end of 2019 to $61 billion TTM while enterprise value increased from $3.9 trillion to $5.3 trillion over the same time.

Figure 4: Consumer Cyclicals FCF Yield: December 2004 – 8/11/20

Consumer Non-cyclicals

Figure 5 shows FCF yield for the Consumer Non-cyclicals sector soared in 2019 before falling to 3.9% TTM. The Consumer Non-cyclicals sector FCF improved from $101 billion at the end of 2019 to $111 billion TTM while enterprise value increased from $2.5 trillion to $2.8 trillion over the same time.

Figure 5: Consumer Non-cyclicals FCF Yield: December 2004 – 8/11/20

Energy

Figure 6 shows the volatile nature of the FCF yield for the Energy sector. The Energy sector’s FCF yield fell from 0.6% at the end of 2019 to -0.05% TTM. The Energy sector FCF declined from $6 billion in 2019 to -$623 million TTM and enterprise value increased from $1.1 trillion to $1.3 trillion over the same time.

Figure 6: Energy FCF Yield: December 2004 – 8/11/20

Financials

Figure 7 shows FCF yield for the Financials sector has been largely stable except during the Financial Crisis. The Financials sector FCF yield declined from 2.4% at the end of 2019 to 1.8% TTM. The sector’s FCF declined from $75 billion in 2019 to $64 billion TTM while enterprise value increased from $3.2 trillion to $3.7 trillion over the same time.

Figure 7: Financials FCF Yield: December 2004 – 8/11/20

Healthcare

Figure 8 shows FCF yield for the Healthcare sector fell from 0.3% at the end of 2019 to -2.5% TTM. The decline in FCF yield stems from FCF falling from $10 billion in 2019 to -$117 billion TTM. Meanwhile, enterprise value increased from $3.9 trillion to $4.7 trillion over the same time.

Figure 8: Healthcare FCF Yield: December 2004 – 8/11/20

Industrials

Figure 9 shows FCF yield for the Industrials sector sits at -0.1%, which is the lowest level since 2012. The Industrials sector FCF fell from $41 billion in 2019 to -$3 billion TTM while enterprise value increased from $2.9 trillion to $3.6 trillion over the same time.

Figure 9: Industrials FCF Yield: December 2004 – 8/11/20

Real Estate

Figure 10 shows the FCF yield for the Real Estate sector rather steadily improved from 2012-2019 before falling in 2020. The Real Estate FCF yield fell from 1.5% in 2019 to -1.6% TTM. FCF for the sector fell from $13 billion in 2019 to -$15 billion TTM and enterprise value increased from $869 billion to $984 billion over the same time.

Figure 10: Real Estate FCF Yield: December 2004 – 8/11/20

Technology

Figure 11 shows the FCF yield for the Technology sector remains well below prior highs in 2011, 2013, and 2015. The sector’s FCF yield fell slightly from 2.8% in 2019 to 2.3% TTM. The Technology sector FCF increased from $199 billion in 2019 to $220 billion TTM and enterprise value improved from $7.0 trillion to $9.7 trillion over the same time.

Figure 11: Technology FCF Yield: December 2004 – 8/11/20

Telecom Services

Figure 12 shows the FCF yield for the Telecom Services sector has fallen from 5.3% in 2019 to -3.4% TTM. The sector’s FCF fell from $59 billion in 2019 to -$42 billion TTM and enterprise value increased from $1.1 trillion to $1.3 trillion over the same time.

Figure 12: Telecom Services FCF Yield: December 2004 – 8/11/20

Utilities

Figure 13 shows the FCF yield for the Utilities sector is rather consistently negative and, despite improving since its 2019 lows, remains negative at -1.7%. The Utilities sector’s FCF improved from -$66 billion in 2019 to -$28 billion TTM while enterprise value increased from $1.6 trillion to $1.7 trillion over the same time.

Figure 13: Utilities FCF Yield: December 2004 – 8/11/20

Disclosure: David Trainer, Kyle Guske II, and Matt Shuler receive no compensation to write about any specific stock, style, or theme.

Appendix I: Free Cash Flow and Enterprise Value Since 2004

This appendix shows the two drivers used to calculate FCF yield – free cash flow and enterprise value – for the S&P 500 and each S&P 500 sector going back to December 2004. I sum the individual S&P 500 constituent values for free cash flow and enterprise value. I call this approach the “Aggregate” methodology, and it matches S&P Global’s (SPGI) methodology for these calculations. More methodology details in Appendix II.

Figure 15 ranks all 11 sectors by TTM free cash flow.

Figure 15: Free Cash Flow by Sector – TTM as of 8/11/20

Figure 16 ranks all 11 sectors by TTM enterprise value.

Figure 16: Enterprise Value by Sector – TTM as of 8/11/20

These two tables show the Technology sector not only generates the most free cash flow, but it also has the highest enterprise value of all sectors.

Figures 17-28 compare the FCF and enterprise value trends for the S&P 500 and every sector since 2004.

Figure 17: S&P 500 FCF & Enterprise Value: December 2004 – 8/11/20

Figure 18: Basic Materials FCF & Enterprise Value: December 2004 – 8/11/20

Figure 19: Consumer Cyclicals FCF & Enterprise Value: December 2004 – 8/11/20

Figure 20: Consumer Non-Cyclicals FCF & Enterprise Value: December 2004 – 8/11/20

Figure 21: Energy FCF & Enterprise Value: December 2004 – 8/11/20

Figure 22: Financials FCF & Enterprise Value: December 2004 – 8/11/20

Figure 23: Healthcare FCF & Enterprise Value: December 2004 – 8/11/20

Figure 24: Industrials FCF & Enterprise Value: December 2004 – 8/11/20[3]

Figure 25: Real Estate FCF & Enterprise Value: December 2004 – 8/11/20

Figure 26: Technology FCF & Enterprise Value: December 2004 – 8/11/20

Figure 27: Telecom Services FCF & Enterprise Value: December 2004 – 8/11/20

Figure 28: Utilities FCF & Enterprise Value: December 2004 – 8/11/20

Appendix II: Analyzing FCF Yield with Different Weighting Methodologies

I derive the metrics above by summing the individual S&P 500 constituent values for free cash flow and enterprise value to calculate FCF yield. I call this approach the “Aggregate” methodology.

The Aggregate methodology provides a straightforward look at the entire sector, regardless of market cap or index weighting, and matches how S&P Global (SPGI) calculates metrics for the S&P 500.

For additional perspective, I compare the Aggregate method for free cash flow with two other market-weighted methodologies. These market-weighted methodologies add more value for ratios that do not include market values, e.g. ROIC and its drivers, but I include them here, nonetheless, for comparison:

  1. Market-weighted metrics – calculated by market-cap-weighting the FCF yield for the individual companies in each sector in each period. Details:

Company weight equals the company’s market cap divided by the market cap of the S&P 500 or its sector

I multiply each company’s FCF yield by its weight

S&P 500/Sector FCF yield equals the sum of the weighted FCF yields for all the companies in the S&P 500/sector

  1. Market-weighted drivers – calculated by market-cap-weighting the FCF and enterprise value for the individual companies in each sector in each period. Details:

Company weight equals the company’s market cap divided by the market cap of the S&P 500 or its sector

I multiply each company’s free cash flow and enterprise value by its weight

I sum the weighted FCF and weighted enterprise value for each company

S&P 500/Sector FCF yield equals weighted FCF divided by weighted enterprise value

Each methodology has its pros and cons, as outlined below:

Aggregate method

Pros:

  • A straightforward look at the entire sector, regardless of company size or weighting in any indices.
  • Matches how S&P Global calculates metrics for the S&P 500.

Cons:

  • Vulnerable to impact of companies entering/exiting the group of companies, which could unduly affect aggregate values. Also susceptible to outliers in any one period.

Market-weighted metrics method

Pros:

  • Accounts for a firm’s market cap relative to the S&P 500/sector and weights its metrics accordingly.

Cons:

  • Vulnerable to outlier results from a single company disproportionately impacting the overall FCF yield.

Market-weighted drivers method

Pros:

  • Accounts for a firm’s market cap relative to the S&P 500/sector and weights its free cash flow and enterprise value accordingly.
  • Mitigates the disproportionate impact of outlier results from one company on the overall results.

Cons:

  • More volatile as it adds emphasis to large changes in FCF and enterprise value for heavily weighted companies.

Figures 29-40 compare these three methods for calculating S&P 500 and sector FCF yields.

Figure 29: S&P 500 FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 30: Basic Materials FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 31: Consumer Cyclicals FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 32: Consumer Non-cyclicals FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 33: Energy FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 34: Financials FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 35: Healthcare FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 36: Industrials FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 37: Real Estate FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 38: Technology FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 39: Telecom Services FCF Yield Methodologies Compared: December 2004 – 8/11/20

Figure 40: Utilities FCF Yield Methodologies Compared: December 2004 – 8/11/20

[1] I calculate these metrics based on S&P Global’s (SPGI) methodology, which sums the individual S&P 500 constituent values for free cash flow and enterprise value before using them to calculate the metrics. I call this the “Aggregate” methodology. Get more details in Appendix II and III.

[2] For 3rd-party reviews on the benefits of adjusted Core Earnings, historically and prospectively, across all stocks, click here and here.

[3] The Industrials sector free cash flow is heavily influenced by General Electric (GE) in 2005. In 2005 GE restated ~$135 billion of Investment Securities to Assets of Discontinued Operations. This reclassification caused a large year-over-year change in invested capital from 2004-2005, and therefore a large increase in FCF. However, due to poor disclosures in the filings, I’m unable to specifically track the changes beyond reclassifying an operating asset as a non-operating asset.

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