Big Tech's free cash flow — or lack thereof — only tells part of the investment story

Breaking news from the markets: Wall Street is fixated on all the money Big Tech is spending on artificial intelligence infrastructure. But not enough attention is being paid to all the cash still coming through the door at these hyperscalers. One of the dominant topics this earnings season has been the dwindling amount of cash remaining after all that AI spending, known as free cash flow.

Amazon's and Alphabet's were actually negative in the June quarter, and Meta and Microsoft saw declines too. The concern is understandable because this is an important metric when evaluating the health of a business. But widening the aperture to focus on both the cash that arrives — operating cash flow — and what is left over paints a less-troubling long-term picture than a narrower discussion focused only on free cash flow.

Economic Details

The hyperscalers' operating cash flows are still growing at impressive clips, offering reason to stick with their stocks through turbulence to reap the AI spending rewards later on. The simplest way to think about free cash flow is that it's the money left over after a company pays for its daily expenses and invests in new equipment and property — like data centers and the computer servers inside them. Investors love this pot of money for all the optionality that it provides.

Companies use it to invest back in the business, pay down debt, and return some of it to their investors through dividends and stock buybacks. After all, cash is king. This is why investors do not simply look at a company's earnings — or net income, to use the accounting name — when evaluating the health of the business.

Of course, earnings are crucial and form the basis of the most common way to value stocks on Wall Street ( a price-to-earnings ratio ). But earnings also include various non-cash charges, including a company's on-paper gains and losses on its investments; stock-based compensation; and depreciation expenses. That's a key difference versus free cash flow, and it helps explain the need for a metric that isolates the actual cash that remains after bills are paid and capital investments are made.

Analyst Views

So, when companies that used to routinely print tens of billions in annual free cash flow start putting up immaterial sums — or even outflows — investors understandably start to be concerned. Both Alphabet and Amazon's free cash flow was negative in the June quarter, falling 210% and 770% year over year , respectively. Meta's FCF contracted by 91%, while Microsoft's declined by a relatively tame 23% .

The source of pressure was the same across the board: soaring capital expenditures to build more artificial intelligence infrastructure. Concerns about dwindling free cash flow are even more understandable given management commentary on earnings calls indicate that additional spending will be needed in the future. Plus, companies have started to tap debt and equity markets in order to sustain the spending.

Economists are analysing what the news means for the markets.