Bank Robbers, Inc

April 6, 2015

There are three parts to my evaluation of a company for  an investment  of up to 5% of my liquid assets.

Management is the key determinant in each step of my evaluation..

A )  The Past  –  The creation of a competitive  product or service by  managing  resources in a sufficiently skillful manner as  to give the product a fighting chance to sustain and enhance  its market success.

B )  The Recent Past  … The  management of existing  resources by the current  CEO and his team to maximize revenue, operating margins, net income and cash flow.

In either ( A) or ( A & B ) Lots of data to mine…..No problem…..But first……

C ) The  Discovery Phase … This is where I visualize myself showing up at the headquarters of Bank Robbers, Inc and asking the CEO and his team …how much cash did we get ? what’s my share ?,  and what is  this years target ?

The Discovery Phase …is where my entire evaluation  could begin  and  could  end….  very quickly.

Since my staff of analysts is me, it is imperative  I  make quick  decisions about  whether an equity deserves an in depth evaluation effort by me.  For instance, just yesterday,  I read that Meg Whitman, CEO of Hewlitt Packard has a severance package of $51,000,000.  On that basis, I wouldn’t  want her as my employee and I would have minimal confidence in any Board that would grant an employee that benefit. So,.. I cross HPQ off my evaluation list.  My eyes and  ears are on duty 24 / 7 to uncover  evaluation candidates.

I don’t return to Parts A and B until I successfully complete  a Discovery phase analysis..

I want to know ( 1 ) how much cash is being generated in relation to the market price of the equity…. and ( 2 ),  how the  CEO and his team are  allocating all the cash being  generated.

a) Are they making  capital expenditures to improve or sustain the competitiveness of the product ?… Why ?

b) Are they using this cash to make an  acquisition or enter a new business.?… Why ?

c) Are they indulging  in an orgy of dead end expenses which do nothing to increase intrinsic value ?

d) Will they pay down debt ?

e) Will they pay dividends ?

f) Will they buy back shares?

But even before I ask these questions  I want  to determine how much cash is being generated in relation to the market price of the stock. The ratio of Price to Cash Flow  ( P / CF ) tells me how many years of cash generation  it will take the company to  pay back my entire investment. I have come to the conclusion that this is the magic piece of information that allows Warren Buffet in the blink of an eye to  decide whether he should pursue or cut bait on the possibilities of a potential  investment.

Using trailing twelve month data, I can give you  a quick comparison between Apple and say….  Amazon.

According to “Morningstar”  data, Apple  generated $11.76 cash per share during the past 12 months . Divide that into Apple’s current price, $125.32 and you come up with a multiple of price to cash flow of 10.65 times.  It will take Apple……10.65 years for cash being  generated to cover my entire investment of $125.32 per  share.

On the other hand, Amazon  generated $14.81 cash per share,…. but the price of Amazon is $372.25 per share, resulting in a multiple of 25.14 years of cash required to payback my investment.  Then,  when you consider that Amazon’s capital expenses ( to further Jeff Bezos’ visions ?  ) are $4.22 per share, it creates a price to “free cash flow”  multiple of  88.21 years of cash generation to repay my Amazon investment…This is versus a price to “free cash flow ” multiple of  12.63 years  for Apple.  ( Operating Cash Flow minus Capital Expenses  = ” Free Cash Flow”  )

Since I am searching for great stocks at great prices, I will invest my evaluation time in Apple.

Now lets talk about ” Shareholder Yield “ which  has three components;

1) Dividend Yield percentage , plus…..

2) Net Buyback Yield percentage, ( one years difference of the number of shares outstanding divided by the market cap of the company. )  Buybacks give you a bigger slice of the pie providing they take place when stock is undervalued and provided the buyback is not paid for by increasing corporate debt. Add this yield  to the dividend yield  percentage,  or subtract it if the Company has created net additional new shares.

3) Net Debt Paydown Yield  percentage …Net changes in short and long term borrowing divided by the market cap of the company.  Add this incremental percentage to the sum of ( 1 ) and ( 2 ) to arrive at ” Shareholder Yield % “…..or subtract it from Shareholder Yield if the company has added net debt.

To make a long story short, I am looking to “invest” in companies which generate sufficient cash and possess sufficient shareholder sensitivity to establish an attractive Shareholder Yield . Morningstar uses terms such as  “exemplary” and “standard” to rate a CEO and his team in terms of skill in managing resources for the benefit of shareholders..

It has always been my belief that a CEO, and his team  that short changes  its employees will short change it’s customers and short change its shareholders and anyone else it sees as an obstacle to its perceived dreams and / or entitlements.  Its a ” me first ” attitude that usually considers employees lucky to have a job  and share holders as ” them “..

You can say  what you want about ” activist ” investors such as  Carl Icahn, but I believe  we need big time investors such as Icahn  to hold self serving CEO’s and their compliant Boards accountable.

Thank goodness there are plenty of companies who think in terms of ” we “.  You just need to find  them.

Richard Maurice Gore

 

 

 

 

 

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