Kativ
Debuted in June 2023, the Victoryshares Free Cash Flow ETF (NASDAQ:VFLO) has already made a solid impression, outperforming not only the iShares Core S&P 500 ETF (IVV) but also a few peers with similar cash flow-centered investment philosophies. For example, since June 23, VFLO has delivered a 9.75% price return, beating all the following ETFs with variants of FCF-focused investment strategies that I covered in the past:
- Pacer US Cash Cows Growth ETF (BUL),
- Distillate U.S. Fundamental Stability & Value ETF (DSTL),
- Pacer US Cash Cows 100 ETF (COWZ),
- FCF US Quality ETF (TTAC).
Seeking Alpha
Its total return of 10.29% has also appeared to be the strongest in this cohort.
Seeking Alpha
Nevertheless, encouraging short-term results should never be hastily extrapolated. And even though the Buy rating I assign to VFLO today is also influenced by its already robust performance, it is the factor story that matters most.
VFLO strategy: amalgamating FCF and growth
According to its website, the fund
…seeks to offer exposure to high-quality, large-cap U.S. stocks that trade at a discount and have favorable growth prospects. VFLO seeks to furnish investment results that track the performance of the Victory U.S. Large Cap Free Cash Flow Index (the Index) before fees and expenses.
More specifically, according to the prospectus, constituents are selected from the VettaFi US Equity Large/Mid-Cap 1000 Index. Financial companies and REITs are shown the red light. Besides,
Companies with negative projected free cash flows or earnings are removed from the Index universe.
The key parameter assessed is the FCF yield, or free cash flows (defined as “money the company has left over after paying its operating expenses and capital expenses”) divided by the enterprise value. 75 companies with the highest FCF yields form the cohort, from which 50 names with the strongest growth scores (incorporating “sales trends and earnings trends”) are selected for the index. I suggest reading the prospectus for a better understanding of other aspects of the process.
Looking at factors: excellent value, quality characteristics
As of December 6, VFLO had 50 holdings classified as ‘common stock’ and ‘common stock appreciate’ in the holdings dataset. There were only two names within the latter security category, namely Amdocs (DOX) and Royalty Pharma (RPRX), together accounting for close to 3% of the portfolio.
Regarding the sector mix, due to the index methodology, there were no financials or real estate. Other sectors that failed to qualify were consumer staples (which, I believe, happened primarily due to the sector’s perennial valuation problem driven by its aura of defensiveness) and communication services. Other sectors’ weights are provided below. Since the fund compares its key parameters to the Russell 1000 Value Index on its website, I have added sector exposures of the iShares Russell 1000 Value ETF (IWD) for better context.
Created using data from IWD and VFLO
Now, the principal reasons why value & quality investors should consider VFLO at the current price. Put another way, it is the factor story told by the key parameters below.
| Metric | 6-Dec |
| Market Cap | $64.63 billion |
| EY | 8.9% |
| P/S | 1.83 |
| EPS Fwd | 18.97% |
| Revenue Fwd | 7.4% |
| EBITDA Fwd | 8.4% |
| ROE | 45.6% |
| ROA | 9.6% |
| EV/EBITDA | 9.34 |
| ROTC | 14.98% |
| FCF yield (FCF/Market Cap) | 9.01% |
| FCF yield (FCF/EV) | 7.83% |
| Quant Valuation B- or higher | 33.9% |
| Quant Profitability B- or higher | 99.6% |
Calculated using data from Seeking Alpha and the fund; holdings as of December 6; financial data as of December 7
First, we see not only an impressive earnings yield of almost 9%, thanks to such energy players as Cheniere Energy (LNG), Valero (VLO), Ovintiv (OVV), and Marathon Petroleum (MPC), but also an even stronger FCF yield.
| Symbol | Weight | Sector | EY |
| LNG | 1.0% | Energy | 30.7% |
| VLO | 2.3% | Energy | 25.1% |
| OVV | 0.7% | Energy | 22.2% |
| MPC | 2.3% | Energy | 20.4% |
Please take notice that I calculated two variants of the yield: the first one with the market cap in the denominator and the second one using the enterprise value. A FCF/EV of 7.8% also looks solid, at least for my taste. Both FCFYs are based on free cash flows computed by multiplying a company’s revenue by its FCF margin (provided by Seeking Alpha).
The top three contributors to FCF/EV are listed below; again, the energy sector added most to the figure.
| Symbol | Weight | Sector | FCF/EV |
| VLO | 2.3% | Energy | 16.9% |
| MPC | 2.3% | Energy | 15.4% |
| LNG | 1.0% | Energy | 14.5% |
Also, we see a fairly healthy share of stocks with a B- Quant Valuation rating of higher, about a third of the net assets. Meanwhile, those with a D+ rating or worse account for just 28%. This is an adequate level, as most large-cap funds I have analyzed to date have more than half of their net assets parked in comparatively overvalued stocks.
Speaking of ‘large-cap,’ even though VFLO has about 20% allocation to mega caps, including energy supermajors Exxon Mobil (XOM) and Chevron (CVX), the fund has a weighted-average market cap of approximately $64.6 billion. As my dear long-term readers most likely recollect, large caps tend to beat their smaller counterparts when it comes to quality. But VFLO has achieved something exceptional: there are no stocks with a D (-/+) Quant Profitability rating in its portfolio at all, while about 96% (47 names) have an A (-/+) rating. Next, all the firms are profitable, with none being cash-burning.
Regarding capital efficiency, there is something to dislike about Return on Equity, as it is overinflated and not as reliable as other parameters owing to the debt factor. There are names with burdensome borrowings on their balance sheets and unrealistically high ROEs as a consequence. Below are a few examples:
| Stock | Weight | Sector | ROE | Debt/Equity |
| Cencora (COR) | 1.7% | Health Care | 469.81% | 884.63% |
| AbbVie (ABBV) | 3.1% | Health Care | 46.32% | 504.43% |
| Cheniere Energy (LNG) | 1.0% | Energy | 859.94% | 338.54% |
| Delta Air Lines (DAL) | 1.6% | Industrials | 49.23% | 302.40% |
However, much more reliable metrics appreciate Return on Assets and especially Return on Total Capital (which is mindful of debt) nonetheless demonstrate how efficient VFLO’s holdings truly are.
The latter figure of almost 15% is clearly impressive. The five essential contributors to it are shown below:
| Symbol | Weight | Sector | Return on Total Capital |
| Cardinal Health (CAH) | 2.9% | Health Care | 51.63% |
| McKesson (MCK) | 2.3% | Health Care | 45.69% |
| Cheniere (LNG) | 1.0% | Energy | 41.15% |
| Booking (BKNG) | 2.1% | Consumer Discretionary | 29.52% |
| NVR (NVR) | 1.8% | Consumer Discretionary | 27.47% |
Next, the fund achieved outstanding exposure to value and quality factors without sacrificing growth, with the weighted-average forward EPS growth rate being especially notable. Obviously, the primary reason is the growth score incorporated into the constituent selection methodology.
Nevertheless, there are still vulnerabilities on that front worth mentioning. For instance, I found out that approximately 18% of the holdings from the health care, IT, materials, and industrials sectors have negative forward revenue growth rates. Also, a refuse in EBITDA is forecast for close to a quarter of the holdings, predominantly for health care and materials players, with The Mosaic Company (MOS) being one of the examples.
Final thoughts
In sum, I believe FCF-focused investors should consider VFLO at this point due to the following reasons:
- it is offering solid value exposure, as illustrated by the weighted-average FCF yield and the share of stocks with a B- Valuation rating or higher,
- its quality (margins and capital efficiency) is impressive,
- the key growth metrics are at healthy levels,
- the fund has outperformed the market represented by IVV, as well as a few peers, since its inception.
However, it is worth remembering that the ETF has an expense ratio of 39 bps, which will be consistently reducing its total returns over the longer term. Please also take notice that there is a (27) bps ‘fee waiver/expense reimbursement,’ and, as per page 1 of the prospectus, the ‘total annual fund operating expenses’ before it are at 66 bps.
