Cash is king again

11/24/2008


Cash has gained added importance in recent months. Banks are loathe to lend it. Consumers are no longer so quick to spend it. And investors would be wise to consider it when evaluating a company.

By analyzing how well a company generates and holds onto cash, investors should be better able to avoid stocks flirting with financial disaster.

The companies shown at the top of the table below share an enviable position. They hold more cash than debt, suggesting they can fund operations or capital projects without seeking loans from skittish lenders. Only about one-fourth of the nonfinancial companies in the S&P 500 Index have more cash than debt.

Debt in itself is not a curse. If used wisely, it can be a tool for growth. But in recent years, low interest rates made borrowing cheap, and debt rose to what now seem uncomfortable levels.

In the last quarter, the S&P 500’s nonfinancial companies held cash equal to 28% of total debt. Three years ago, cash holdings represented 86% of debt. Over that three-year period, cash as a percentage of total debt declined in seven of the nine nonfinancial sectors of the S&P 500.

In the current environment, credit has become expensive, when it can be secured at all. As such, companies that do not need outside cash enjoy a competitive advantage.

Having plenty of cash on the books right now is one thing, but generating enough to keep the coffers full after paying bills is another matter. A company with only enough cash to meet expenses for one quarter had better find a way to keep it rolling in. Companies shown at the bottom of the table below have generated solid cash-flow growth over the last one and three years and seem capable of continued growth.

CASH IN ON THESE
The 10 cash kings below hold cash and short-term investments equal to or greater than their total debt. The seven cash-flow leaders have grown operating cash flow at double-digit rates over the last one and three years. To qualify for either list, a company must earn a Quadrix Financial Strength score of at least 80.
Chg. in Operating
— Cash Flow —
Chg. in Free
— Cash Flow —
Company (Price; Ticker)
Cash
($Mil.)
Cash
as % of
Stock-
Market
Value
LT
Debt
($Mil.)
LT Debt
as % of
Capital
Cash/
Total
Debt
Times
Interest
Earned
Last 12
Months
(%)
Last
3 Yrs.
(Ann.)
(%)
Last 12
Months
(%)
Last
3 Yrs.
(Ann.)
(%)
Quadrix
Financial
Strength
Score
Advice
Cash kings
Accenture
($29; ACN)
3,623
21
2
0
NM
133.7
7
14
9
11
94
Focus
Buy †
Adobe Systems
($23; ADBE)
2,001
17
350
7
5.7
127.5
(2)
24
(1)
25
100
Buy †
Chevron ($73; CVX)
10,983
7
6,129
7
1.6
174.2
33
21
120
4
89
Buy †
Exxon Mobil
($76; XOM)
38,434
10
7,383
6
3.7
105.5
22
7
26
5
84
LT Buy
Johnson & Johnson
($61; JNJ)
14,799
9
8,395
16
1.0
39.0
1
11
(9)
13
92
Focus
Buy †
Microsoft
($20; MSFT)
20,722
12
0
0
10.5
NM
(3)
4
(14)
NM
95
Buy †
National Oilwell
($25; NOV)
1,765
17
1,493
11
1.2
41.0
73
226
81
213
88
Buy †
Oracle ($17; ORCL)
13,021
15
10,236
30
1.2
18.1
20
30
20
30
86
Buy †
Qualcomm
($32; QCOM)
6,584
13
142
1
46.0
170.2
(7)
10
(45)
(9)
99
Focus
Buy †
Western Digital
($13; WDC)
1,215
43
462
14
2.4
20.5
109
54
195
71
85
Buy
Cash-flow leaders
Oceaneering Int’l
($26; OII)
25
2
303
24
0.1
19.9
95
33
NM
36
82
Focus
Buy
Questar ($29; STR)
0
0
1,996
38
0.0
10.0
32
42
NA
NA
86
LT Buy
Schlumberger
($50; SLB)
3,493
6
3,528
16
0.6
26.6
23
36
18
45
91
LT Buy
Sigma-Aldrich
($40; SIAL)
221
4
200
12
0.4
22.2
20
14
25
23
86
LT Buy
St. Jude Medical
($31; STJ)
579
6
197
5
0.4
52.8
42
14
65
9
89
Focus
Buy †
Transocean
($70; RIG)
1,221
5
13,851
46
0.1
9.6
76
87
NM
NM
80
Focus
Buy †
Walgreen
($24; WAG)
443
2
1,377
10
0.2
112.1
29
30
68
119
81
LT Buy
Notes: Quadrix scores are percentile ranks, with 0 the worst and 100 the best.      The times interest earned ratio represents income before interest and taxes divided by interest expense and reflects how comfortably a company can satisfy its debt obligations.     † Also qualifies as a Long-Term Buy.      NM Not meaningful because companies have little or no debt.      NA Not available.

All too often, when companies report poor cash flow, lenders can demand early payment or additional collateral. While the median S&P 500 nonfinancial company has grown operating cash flow 9% over the last 12 months, free cash flow — what is left after funding dividends and capital projects as well as operations — declined 1%. Only the health care, industrial, and technology sectors have increased median free cash flow in the past 12 months.

In the following paragraphs, we review two stocks with strong cash positions and two cash-flow leaders.

Cash kings
According to Adobe Systems ($23; NASDAQ: ADBE), more than 90% of creative professionals have Photoshop installed on their computers and more than 44% use multiple Adobe programs. Loyalty to Adobe’s powerful brand runs deep, although the company has begun feeling tremors from the economic downturn.
Consensus estimates project modest per-share-profit growth of 4% in the November quarter, reflecting fears that creative professionals delayed purchases ahead of the latest version of Adobe’s Creative Suite, released in October. Even so, the company’s research prowess and broad product lineup should drive solid growth over the next several years.

Adobe generates the bulk of sales in the U.S. and Western Europe but has begun to penetrate high-growth foreign markets, including Asia, which now accounts for 20% of sales. The company held about $2 billion, or $3.76 per share, in cash and short-term investments at the end of August, nearly six times the value of its debt. Adobe enjoys substantial flexibility to fund expansion and research efforts. Wall Street expects per-share-profit growth of 5% in fiscal 2009 ending November, a target Adobe seems capable of exceeding. The stock trades well below its three- and five-year averages as measured by price/earnings, price/cash flow, and price/sales. Adobe Systems is a Buy and a Long-Term Buy.


Qualcomm’s ($32; NASDAQ: QCOM) cash flow per share rose at least 14% in each of the last six years. Even in the year ahead, while Wall Street expects per-share profits to fall, the consensus forecasts growth of 9% in per-share cash flows.

At the end of September, Qualcomm held $6.58 billion in cash, representing about 13% of stock-market value and enough to pay off total debt 46 times over. The maker of wireless equipment is investing that cash in the business. Qualcomm boosted its work force 20% in the last year. The company announced some cutbacks in November, but its ability to spend now should allow it to grab new business while competitors struggle.

Qualcomm has modest expectations for the next year, projecting sales and profit declines in fiscal 2009. The company blamed the weak sales on customers cutting back on inventory rather than a loss of market share, inferring that sales should pick up once the market rebounds. Qualcomm, a Focus List Buy and a Long-Term Buy, seems capable of annual per-share-profit growth of 10% to 15% over the next five years.

Cash-flow leaders
Oilfield-services giant Schlumberger ($50; NYSE: SLB) has operations scattered around the globe, limiting the effects of a downturn in any one region. Credit markets threaten to crimp results in North America as customer spending slows in 2009. But in the September quarter, international markets accounted for 81% of Schlumberger’s oilfield-services income. Unless recessionary conditions last another 12 months or more, Schlumberger expects minimal slowdown in international operations.

A robust order backlog should support profit growth at Schlumberger even if oil and natural-gas prices remain low. Consensus estimates for 2009 project per-share growth of 6% in profits and 8% in cash flow. Schlumberger has a solid balance sheet, with long-term debt equal to just 16% of capital and $3.49 billion ($2.92 per share) in cash and short-term investments. That generous cash balance, coupled with an additional $2.1 billion in available credit, provides Schlumberger with the flexibility to operate and expand despite the credit crunch. Schlumberger is a Long-Term Buy.


This year, while many companies struggled, St. Jude Medical ($31; NYSE: STJ) improved both its cash and credit positions. Operating cash flow grew 33% in the first nine months of 2008, and the company’s cash holdings have jumped 49% so far this year. In May, Standard & Poor’s raised the credit rating on St. Jude’s long-term debt, which was already investment-grade.

At least three of St. Jude’s four operating segments should deliver double-digit sales growth in 2008. Atrial fibrillation has set the pace, with sales up 33% in the nine months ended September. Atrial-fibrillation devices treat a type of irregular heartbeat that has been linked to strokes. Wall Street expects per-share profits to increase 13% in 2009 and 12% in 2010, targets that sound conservative. St. Jude Medical is a Focus List Buy and a Long-Term Buy.

SECTOR ANALYSIS
While nonfinancial companies in the S&P 500 Index are holding more cash as a percentage of stock-market value than they did three years ago, some sectors are more flush than others. Debt financing is commonplace throughout most of the market, as evidenced by the fact that only the technology sector has more cash than debt. However, the ratio of cash to debt decreased substantially over the last three years, with declines in all but two sectors. Data for cash and debt represent aggregates for each sector. Times interest earned and cash flow data reflect medians for stocks in each sector. Times interest earned represents earnings before interest and taxes divided by interest expense and represents how comfortably a company can cover its debt obligations.
Cash and Short-
—– Term Investments –—
Cash/Total
—— Debt ——
Chg. in Operating
— Cash Flow —
Chg. in Free
— Cash Flow —
Sector
On Hand
Last Qtr.
($Bil.)
Current
(%)

3 Yrs.
Ago
(%)

LT
Debt
($Bil.)
LT Debt
as % of
Capital
Last
Quarter
3 Yrs.
Ago
Times
Interest
Earned
Last
12
Months
(%)
Last
3 Yrs.
(Ann.)
(%)
Last
12
Months
(%)
Last
3 Yrs.
(Ann.)
(%)
Quadrix
Financial
Strength
Score
Consumer Discretionary
115
18.9
12.0
467
53
0.22
0.21
3.5
5
5
(13)
(1)
56
Consumer Staples
49
4.2
4.5
210
36
0.17
0.25
9.3
6
3
(15)
(7)
50
Energy
85
8.0
7.1
189
23
0.41
0.56
19.7
33
29
(20)
10
78
Health Care
147
13.2
10.0
161
26
0.75
1.26
14.9
18
12
16
9
67
Industrials
76
9.5
5.6
521
52
0.10
0.11
4.1
12
15
3
13
66
Information Technology
246
20.5
13.0
113
19
1.69
2.51
20.9
8
10
5
5
78
Materials
24
10.0
7.8
89
34
0.22
0.25
7.3
(9)
7
(49)
(7)
55
Telecom Services
9
3.2
6.2
150
39
0.05
0.14
4.9
11
6
(39)
19
64
Utilities
25
7.8
5.4
264
54
0.08
0.07
3.0
0
3
NA
NA
46
S&P 500 Nonfinancial Cos.
776
11.4
8.8
2,164
38
0.28
0.86
8.6
9
9
(1)
4
62
* Quadrix scores are percentile ranks, with 0 the worst and 100 the best.      NA Not available.

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