Cash flow investing is an investment strategy that focuses primarily on cash flow oriented companies versus high growth startups. The difference is profitability versus growth, cash flow oriented companies will sacrifice growth to ensure profitability, while high growth companies would sacrifice profitability in order to scale extremely fast. I wouldn’t say one is better than the other but it just comes down to the preference of the type of business you would like to be involved in — each has its own set of pros and cons. Think of it as real estate investing, Real Estate Investors may have a portfolio that consists of rental properties (i.e. apartments) that bring in passive income and equity properties that yield a large one-time lump sum from the property being sold.
If your investment strategy is to become more financially independent with less reliance on a paycheck by earning residual/passive income, consider cash flow investing in small businesses. When investing in cash flow oriented businesses the return comes in a form of loan payment, cash distribution or dividend. The benefit of cash flow investing is that those returns or distributions from your investments can come on a monthly, quarterly or annual basis.
Let’s say you along with a crowd of others invested in a local McDonald’s franchise and collectively own 15%. Every year, since the grand opening of the fast food restaurant, the franchise paid out 10% of its earnings ($150,000) to its investors annually, which turns out to be $15,000. That payment could increase or decrease and could last for a long time assuming the company continues to grow. The remaining net income gets reinvested back into the business. Below is a sample profit and loss statement of a McDonald’s franchise, that showcase the total net income that we used to calculate dividend.
For those investors that want to earn passive income, cash flow investing is a great strategy. However, there are some downsides. Unforeseen events could happen such as significant lost in revenue, extreme hike in uncontrollable expenses or a market shift. This obviously could impact the profits earned, which could reduce or deplete the dividend payout. Before investing put in a minimum of 40 hours of due diligence, to help reduce the risk of a bad investment.