Reading the cash flow statement like an analyst
Amazon earned 77.7 billion dollars, yet its free cash flow fell to 11.2 billion. Work out which number tells you more, and what free cash flow leaves out.
FinanceReading the accounts like an analystAbout 9 min: 9 readingUpdated
General education, not financial advice.
- Read the pattern of operating, investing and financing cash flows
- Calculate free cash flow on more than one definition and say what each leaves out
- Separate a fall in free cash flow caused by investment from one caused by weaker operations
Builds toward: Judge a company. Read a company's accounts, apply Graham's tests, and make a rough valuation.
Reading the accounts like an analyst: lesson 6 of 10
- Reading the accounts like an analyst
- The three statements and how they link 10 min
- Common-size statements and trends 9 min
- Profitability ratios: margins, ROA and ROE 9 min
- Efficiency ratios and the cash conversion cycle 9 min
- DuPont analysis: where ROE comes from 10 min
- Reading the cash flow statement like an analyst 9 min
- Profit against cash: accruals and earnings quality 11 min
- When is a sale a sale? Revenue timing and channel stuffing 10 min
- The expense side: capitalised costs, reserves and big baths 8 min
- The Beneish M-score: a screen for manipulation, and its limits 10 min
Pairs with any financial statement analysis text (the chapter on cash flow analysis)
Mission
From: a portfolio manager Due: Thursday, half a page
Amazon reported net income of 77.7 billion dollars for 2025, its best ever, but its free cash flow fell from 38.2 billion to 11.2 billion. One of those numbers is telling me something the other isn't. Which should I trust as a guide to this business, and what's going on? Use the 10-K for 2025 (filed 6 February 2026).
The documents (Amazon.com, Inc., Form 10-K for 2025; millions of dollars):
| Cash flow statement and MD&A | 2024 | 2025 |
|---|---|---|
| Net income | 59,248 | 77,670 |
| Depreciation and amortisation (2) | 52,795 | 65,756 |
| Stock-based compensation | 22,011 | 19,467 |
| Operating activities | 115,877 | 139,514 |
| Property and equipment, net (1) | (77,658) | (128,320) |
| Free cash flow (company's measure) | 38,219 | 11,194 |
| Investing activities | (94,342) | (142,545) |
| Financing activities | (11,812) | 9,661 |
| Finance lease principal repaid | (2,043) | (1,557) |
(1) "Purchases of property and equipment, net of proceeds from sales and incentives". (2) Includes content and operating-lease assets; the notes give depreciation on property and equipment alone as 32.1 billion (2024) and 41.9 billion (2025).
From the MD&A: cash capital expenditures "primarily reflect investments in technology infrastructure (the majority of which is to support AWS business growth) and in additional capacity to support our fulfillment network, both of which we expect to increase in 2026". The company also says free cash flow "does not incorporate the portion of payments representing principal reductions of debt or cash payments for business acquisitions".
What it is
The toolkit for this job.
The three sections, read as a pattern. The signs of operating, investing and financing cash flows (+ or −) often say where a company is in its life:
| Stage | Operating | Investing | Financing |
|---|---|---|---|
| Start-up | − | − | + |
| Growing fast | + | − (large) | + or − |
| Mature | + | − (small) | − |
| Declining | small or − | + (selling assets) | − |
A pattern is a prompt, not a verdict: a mature company in a heavy investment phase can look like a growing one.
Free cash flow (FCF) is cash from operations after the spending needed to keep and grow the business. There is no single official definition:
- the simplest: operating cash flow − capital expenditure (capex);
- companies' own versions, such as capex net of asset sales and incentives (Amazon), which must be reconciled to the cash flow statement when they're reported as non-GAAP measures;
- stricter versions that also take off lease principal repaid, or stock-based pay (a real cost paid in shares rather than cash, which is added back in operating cash flow).
Growth or upkeep? Companies rarely split capex into "maintenance" (keeping what they have) and "growth". Depreciation is a rough guide to upkeep: capex far above depreciation usually means expansion.
Classification differs between rule books. Under US GAAP, interest paid is an operating cash flow. Under IFRS (IAS 7), companies have had a choice for interest and dividends; IFRS 18's amendments to IAS 7, from 2027, require most companies to show interest paid in financing and interest and dividends received in investing. And under IFRS 16 the principal part of lease payments is financing (and the interest may be too), while under US GAAP operating-lease payments stay in operating cash flow. The same business can show different operating cash flow under the two.
Questions an analyst asks
- What pattern do the three sections make, and does it fit the story the company tells?
- Is operating cash flow above profit? If so, why: non-cash costs, or working capital?
- Which definition of free cash flow is this, and what does it leave out?
- Did free cash flow fall because operations weakened, or because investment rose?
- Is the investment paying for upkeep or for growth, and what would tell me whether it earns a return?
Why it matters
Free cash flow is the number many investors use to judge whether a company can pay dividends, buy back shares, repay debt or simply fund itself. But a single FCF figure hides choices: how much to invest, how to pay staff, how to finance assets. A falling FCF can be the best news in the accounts (a company investing in demand it can see) or the worst (operations producing less cash). Telling them apart is a core analyst skill.
Worked example
Two imaginary companies, both with operating cash flow of 500 and free cash flow of 100 (millions):
| Ridgeway | Harrow | |
|---|---|---|
| Operating cash flow | 500 | 500 |
| Capex | 400 | 400 |
| Depreciation | 150 | 390 |
| Stock-based pay (added back) | 20 | 180 |
- Ridgeway spends 400 against depreciation of 150: about 250 is expansion. Its low FCF is a choice to grow.
- Harrow spends barely more than depreciation, so almost all its capex is upkeep. And 180 of its operating cash flow is stock-based pay added back. Counting that as a cost, its FCF is about −80.
Same headline FCF; very different businesses.
Common mistake
Treating the company's own "free cash flow" as the free cash flow. Each definition leaves things out: lease principal, acquisitions, stock-based pay. State which definition you use, and show the stricter versions next to it.
Key terms
- free cash flow
- cash from operations after capital expenditure; definitions vary, so always state yours
- capital expenditure (capex)
- cash spent on property, plant and equipment
- maintenance capex
- spending to keep existing capacity; often approximated by depreciation
- stock-based compensation
- pay in shares or options; an expense with no cash outflow, added back in operating cash flow
- non-GAAP measure
- a company's own measure outside accounting standards, which must be reconciled to the nearest standard figure
Practise the key terms
Tap a card to turn it over. 5 cards.
| Front | Back |
|---|---|
| free cash flow | cash from operations after capital expenditure; definitions vary, so always state yours |
| capital expenditure (capex) | cash spent on property, plant and equipment |
| maintenance capex | spending to keep existing capacity; often approximated by depreciation |
| stock-based compensation | pay in shares or options; an expense with no cash outflow, added back in operating cash flow |
| non-GAAP measure | a company's own measure outside accounting standards, which must be reconciled to the nearest standard figure |
Task
Write the half-page note to the portfolio manager:
- a small table: net income, operating cash flow, capex, FCF on the company's definition, and FCF after lease principal and after stock-based pay, for both years;
- what explains the fall in FCF, with the evidence;
- which number is the better guide to this business, and why;
- what would change your view.
Model answer
Show the model answer
| Millions | 2024 | 2025 |
|---|---|---|
| Net income | 59,248 | 77,670 |
| Operating cash flow | 115,877 | 139,514 |
| Capex, net | 77,658 | 128,320 |
| FCF, company's measure | 38,219 | 11,194 |
| … less lease principal | 36,176 | 9,637 |
| … and less stock-based pay | 14,165 | −9,830 |
Amazon: free cash flow fell because investment jumped, not because the business weakened · Source: Form 10-K for 2025
Neither number on its own is the guide: operating cash flow is, and it rose 20% to 139.5 billion. Free cash flow fell to 11.2 billion because capital spending rose by 50.7 billion (to 128.3 billion), mainly technology infrastructure for AWS and fulfilment capacity, which the company expects to rise again in 2026. Capex was about three times depreciation on property and equipment (41.9 billion), so roughly two-thirds of it is above upkeep: expansion. On stricter measures the picture is tighter: after finance lease principal FCF was 9.6 billion, and counting 19.5 billion of stock-based pay as the cost it is, it was about −9.8 billion.
So: the business generated more cash than ever and spent over 90% of it on capacity. Net income is a poor guide here in both directions: it is after 65.8 billion of depreciation and amortisation on past investment, and before the cost of today's.
What would change my view: operating cash flow growing more slowly than capex for several years, or depreciation rising faster than revenue without margins following. The question for next year is what return the new capacity earns.
How the expert gets there. They separate the two halves of FCF before judging it: operating cash (up) and capex (up much more). They compare capex with depreciation on property and equipment (not total depreciation and amortisation, which here includes content) to see how much is growth. They put the stricter definitions alongside the company's, and they read the MD&A for the company's own explanation of the spending.
What a reviewer would flag:
- "FCF fell 71%, so the business is struggling": the opposite of what the operating figures show.
- Using the company's FCF without saying it is a non-GAAP measure, or without the stricter versions.
- Ignoring stock-based pay, which is 19.5 billion of real cost.
- Concluding the investment is good or bad: the accounts can't tell you yet.
Practice
Transfer: same habit, a different company. A colleague flags Home Depot: "Operating cash flow fell 18% (19.8 billion to 16.3 billion) while net earnings fell only 4%. The cash is deteriorating." The figures are from Home Depot's Form 10-K for the year to 1 February 2026. Open its cash flow statement. In three sentences: is this a warning sign, and what would change your mind?
A model answer
Mostly timing, not a weaker business. Working-capital swings of about 3.8 billion more than explain the 3.5 billion fall: income taxes payable went from +809 million to −698 million, accounts payable and accrued expenses from +518 million to −1,058 million, and inventories took 1,498 million against 743 million the year before; net earnings fell by only 650 million. These swings tend to reverse, though inventory rose 10% against sales growth of 3.2%, partly because Home Depot acquired GMS during the year, which is worth watching. What would change my mind: operating cash staying below net earnings plus depreciation next year, or inventory continuing to grow faster than sales.
How the expert gets there: when cash falls more than profit, they read the working-capital lines one by one and size each against the gap.
What a reviewer would flag: treating a one-year swing in tax payments as a trend; missing that the previous year had 53 weeks.
In short
- Read the three sections as a pattern, then check it against the company's story.
- Free cash flow has many definitions: state yours and show the stricter ones.
- Compare capex with depreciation to judge how much is growth.
- Stock-based pay is a real cost even though no cash leaves.
- A fall in free cash flow can mean heavy investment, not a weaker business: follow the cash to find out which.
Check yourself
Answer in your head first, then open the answer. Nothing is saved.
A company's capex is three times its depreciation and its free cash flow is negative. What's the first thing you'd conclude, and what would you check?
Show answer
It is probably expanding rather than struggling; check that operating cash flow is healthy and rising, and what the investment is for.
Why might the same company report higher operating cash flow under IFRS than under US GAAP?
Show answer
Under IFRS 16 most lease payments are financing cash flows, and IFRS has allowed interest paid to be shown in financing; under US GAAP operating-lease payments and interest paid stay in operating.
Why subtract stock-based compensation when judging free cash flow?
Show answer
It's a real cost of employing staff, paid in shares instead of cash; leaving it out makes cash generation look better than it is for shareholders, who bear the dilution.
Further reading
- Amazon.com, Inc., Form 10-K for 2025 (SEC EDGAR): consolidated statements of cash flows and the MD&A on free cash flow.
- The Home Depot, Inc., Form 10-K for the year ended 1 February 2026: consolidated statements of cash flows.
- IFRS Foundation, IAS 7 Statement of Cash Flows, and IFRS 18 Presentation and Disclosure in Financial Statements (amendments to IAS 7, effective 1 January 2027), ifrs.org.
- On this site: The three statements and how they link.
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