What does "Its cash flow is deeply negative" mean?

Question

Does "Its cash flow is deeply negative" mean "Netflix makes a big loss"?

Netflix is profitable, but only on an accounting basis. Its cash flow is deeply negative as it pours cash into content. Apple will need to be just as aggressive with content spending to stand a chance. Spotify isn't profitable, and Apple Music likely isn't, either. Apple's news and game subscription services may have the best chance of producing profits, but they're unlikely to become big enough to move the needle.

Source: https://www.ibtimes.com/problem-apples-services-strategy-2780023

Answer 1

It means they're making a big loss in cash terms, yes. The claim that they are profitable is based on a theory that they are accumulating valuable assets in exchange. In Netflix's case, it's that they are spending lots of money on their content, which they expect to produce income in future years too.

So essentially lots of cash going out the door now, but they hope to make it back in future based on people continuing to pay for the things they are producing now.

There's some discussion and skeptical analysis here and here.

Here are links to Netflix's actual income statement and cash flow statement

Answer 2

You're talking about the difference between Profit and Loss (as in, the accounting report with the same name) versus Cash Flow (again, accounting report of the same name).

The difference exists because not all assets are cash. Yet a non-cash asset is carried on the accounting books at its cash value - the value of a building, the value of vehicles, equipment, inventory, even intangibles like the value of a copyright, patent, franchise, etc. Buildings are great, but you can't pay salaries with them, so you need to also mind the cash.

Here's a great example. Museum X has a $100,000 exhibit that doesn't fit their collection, but it belongs in Museum Y's collection, and will help Museum Y make a lot more money in the long run. Both museums make $4000 net profit each year.

I donated $100,000 to Museum X on condition that they give the exhibit to Museum Y. Unfortunately, it cost Museum Y $10,000 to prepare, move, and set up the exhibit. What does this do to both museum's cash flows vs P/L?

For museum X, it's a wash on their Profit/Loss Statement. They lost a $100,000 asset (the exhibit) but gained another (the cash), so these two things cancel each other out and it posts as a normal $4000 profit year. Different deal on their Cash Flow Statement. There, their cash flow leaps to $104,000. Wowza!

For Museum Y, their Profit/Loss statement is pure good news, because the new asset adds $100,000 of paper profit. They post a $94,000 profit - their normal $4000 profits, plus the $100,000 gift, minus the $10,000 cost to move it. Fantastic year on paper. It's a different story on their Cash Flow Statement - they are $6000 negative becuase of the cash outlay to move the exhibit.

Museum Y's patronage increases because of their new exhibit, which greatly improves their real cash income (cash flow and P/L) in future years.

What happens if you rely on the Profit/Loss Statement and ignore Cash Flow? Well, both museums would make bad decisions - Museum Y would get spendy when it has no cash, and Museum X would fail to realize they have a nest egg now.

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With Netflix, they are pouring their cash into "exhibits" - these cost them a bunch of money up front, but will produce income for them for years later. These assets could even be sold. In effect, they are converting cash assets into fixed non-cash assets: a wash on the Profit/Loss statement, but a huge hit on the Cash Flow statement.

But that is normal for businesses. Ships aren't built to stay in harbor, and businesses aren't built to keep cash sitting around.

Answer 3

Apart from capital investments (purchasing valuable assets with borrowed money) negative cash flow can be a result of late payments. If your customer pays you at the end of the month for a service which you have to deliver (and pay the associated costs) now, then a rapidly growing customer base can become problematic because of negative cash flow despite the business being profitable.

For example, suppose a company is paying an average of $8 in bandwidth and infrastructure costs for every customer with a $10 subscription to be paid at the end of the month. Considering those two numbers, the company is clearly profitable. But if 1000 new customers show up every month, the company would have to deal with a negative cash flow of $8000, and if they don't generate enough profits and cannot borrow that money, they won't be able to provide their services to these new customers. They'd need to have 4000 existing customers (assuming no other expenses) to be able to grow at a rate of 1000 new customers per month. This is probably not a problem for Netflix which already has a sizeable user base, but it will be for Apple if they decide to start a Netflix-like service (like the article suggests), since the user base of such a service is expected to grow very fast initially, thanks to a large number of iPhone owners.

In both cases, biting off more than the company can chew (investing too much or growing too fast) will result in financial problems and even bankruptcy, even if the business model is profitable in theory.

Answer 4

It means that they have enough money (or credit) to make these purchases now, but aren't currently making that money back. They've spent more than they currently expect to make - but are still 'profitable' because they believe those purchases will make them more money.

So for example, let's say Netflix is currently spending $5 Million on new assets this month, and they're expected to make $3 Million this month on their services. They'd have a negative cash flow of -$2 Million.

The reason they are able to do this is because of their cash reserves (For example, if they have $10 Million in cash reserves, then they can afford their $5 Million asset purchases), and why they are still considered 'profitable' is because they're expected to make up these losses with growth (These new assets are expected to increase their incoming revenue).

There is a risk with this kind of investment though - their new assets might not interest any new subscribers, in which case they will see no growth at the cost of their cash reserves. And even if they do, they will need to see a significant and sustained increase in subscriptions for that investment to be worth their initial purchase.

A practical example would be a teenager who saves up enough in allowances to buy a $100 lawnmower in the Spring. Their "cash flow is negative" because they just spent significantly more than they make, but their plan is to use that lawnmower to make more money for themselves. The risk being they need to find enough lawns to mow in the Summer to make back their $100 purchase, and then some, before they start seeing a profit.

Answer 5

Suppose, for example, that it costs you $2000 to bring a new customer on board, and that you reasonably expect that customer to pay you $100/month for at least the next 5 years. Suppose further that your sales force is doing a bang-up job, and signing up 100 customers/month. Also suppose that you are good at controlling your fixed costs.

You are cash-flow negative, big time. I would also invest in your company in a heartbeat.

There are businesses that can bootstrap, that is, finance their growth out of cash flow. They are not necessarily better than companies that require financing. I worked for one that was able to bootstrap, right up to the point where our market exploded. Then we had to borrow, well, let's just say many, many zeros. Large financial institutions lined up to lend us what we needed.

Answer 6

A company with a negative cash flow is one which has annual expenditure that exceeds its income -- in the current accounting year.

In the current accounting period, therefore, it is making a net loss on its trading account, commonly known as its profit-and-loss account.

No one has yet mentioned its balance sheet. A company has net assets, in addition to its net profit/loss. It can finance a net loss in the current period from its net assets, accumulated in previous trading periods.

A deeply negative cash flow merely means a large net loss in the current period: but more commonly refers to a previous period, in other words refers to the last full trading period for which figures are available/published.

It does not imply anything, taken on its own. In order to understand the company's financial situation, one needs to know also its net assets (from its balance sheet): this tells you whether the company can finance a trading loss from its net assets (which is really saying: from its reserves).

Capital assets (e.g. the value of land or buildings it owns), and cash-at-bank, are reported on its balance sheet as part of its net assets. You need to be an expert in order to analyse a balance sheet, because (for example) capital assets can be difficult to value accurately: they might be recorded at their historic cost, instead of their current market value; and it may be difficult to correctly assess what their current market value truly is.

A negative cash flow can also occur from buying goods or property, which are included by normal accounting practice as net assets, hence are recorded in the balance sheet, not the profit and loss account. A negative cash flow resulting from purchasing valuable assets does not imply anything negative about the company's net value or prospects.

So for all these reasons, taken on its own even a deeply negative cash flow on current account does not really mean anything.