Tellabs Not a C-K Yet
TOWACO, NJ (Nov. 6, 1998) -- Last night I relayed the content of some conversations that I had with Pete Johnson, Vice President of Finance and Treasury at Tellabs (Nasdaq: TLAB). Tonight I'm going to continue that conversation as I move onto the current liabilities section of the balance sheet. Then I'm going to finish up with some thoughts on a new version of the flow ratio.
One of the questions I asked of Mr. Johnson related to how much ability Tellabs has to delay payments to its suppliers. I was told that this is not something that the company does very often. As a matter of fact, one supplier -- Motorola (NYSE: MOT) -- is paid on a cash basis. Tellabs doesn't push off payment of its payables because of the importance of its supplier relationships.
This view does make it easier for the company to obtain parts from its suppliers on an as needed basis. Tellabs even has an important parts vendor on its factory floor so that it can receive parts immediately. Parts are handed from the vendor to Tellabs' manufacturing personnel as needed. The company pays its suppliers on-time/early. It keeps relationships like this because of their perceived strategic value. Parts can be hard to come by. These types of arrangements allow Tellabs to have access to the parts it needs when it needs them.
One of the reasons we like to see our companies have low Flow Ratios is because we believe that means they are selling products in such high demand that they can force customers to pay their receivables off more quickly. We believe that the business of our Cash-Kings is so important to their suppliers that our companies have the ability to push off payment as a way of obtaining an interest free loan.
Clearly, at present, Tellabs does not meet either of these criteria. This is also something that is borne out by the company's Flow Ratio. So, what does all this mean? To me it means that Tellabs is not a Cash-King right now. Its business and stock have both performed quite well over the last few years, but it just doesn't have the financial strength to be a Cash-King. It does, however, still sit in my own portfolio. Since it's not a Cash-King, though, this means that it requires a little closer monitoring than my Cash-King stocks. (By the way, Pete, if you've read these last two reports -- you did say that you'd try to check us out -- you now know why I think Tellabs falls short of Cash-King status.)
There is, however, one more significant piece to the Tellabs' current liability puzzle that needs to be discussed.
In my column of September 11, I expressed concern about the potential impact that accrued liabilities may have had on Tellabs' flow ratio. After talking with Mr. Johnson, I learned that my concerns were right on target.
Here's one of the main reasons why the company's accrued liabilities fluctuate so much: When Tellabs holds some warrants in another company, Generally Accepted Accounting Principles (GAAP) require that the value of the underlying stock be included in its cash balance. More significantly, the potential tax liability due from the exercise of the warrants appears as an accrued liability on Tellabs' balance sheet. So, when the price of the stock related to the warrants fluctuates, there is a significant impact on accrued liabilities.
There are also other items that can appear in the accrued liabilities account for which I have less confidence that the numbers won't fluctuate randomly from quarter to quarter. As a general rule, accrued liabilities are much different than accounts payable. Accrued liabilities are not an example of a company taking its time to pay its creditors. They may merely be an estimate of future expenses. They also might just represent money owed to employees.
Now, some Fools might ask why I think this is significant. I look at it this way: Payables are often paid under terms of 30 or 60 days. They are owed to suppliers. As a company business becomes stronger and stronger, we expect it to have the ability to delay payment a little longer without harming the relationship with its suppliers. The reason for this is that the supplier wants to retain the business, is profiting from it and may be more flexible in the case of things like payment terms from its best customers.
On the other hand, as Philip Fisher said in Common Stocks and Uncommon Profits, it's important that a company have good relations with its employees. So, I believe that a company should wield less power in terms of delaying payment to its employees. Any accrued liabilities related to payments due to employees are also often related to the time of month rather than anything else and may be particularly short in duration compared to amounts like outstanding payables.
This leaves me believing that I would rather see the amounts in the denominator of the flow ratio be made up of accounts payable rather than accrued liabilities. So, what I'm thinking is that it could well be worth keeping track of another variation of the flow ratio. Something that I'd like to call the pure flow ratio: (receivables + inventory)/payables. I start with just these items in the pure flow ratio because these are the ones that I believe are characteristics of the true Cash-Kings.
The next thing that we have to do is decide what kind of value would be our target for the pure flow ratio. I'd say that it would be something less than 2.0. We need to do some more research to find out what is a realistic target. I did, however, calculate the pure flow ratio for our existing Cash-Kings (except American Express). What I found was that Microsoft, Coke, Intel, Gap, Cisco and Schering-Plough all met the 2.0 threshold. Only T. Rowe Price and Pfizer didn't meet this target.
I'd appreciate hearing your comments on this subject on the Cash-King Strategies Board.
That's all that I have time for tonight. Have a Foolish Weekend. Until my next turn to write comes up again, I'll see you on our Message Boards.
Phil Weiss, Fool
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Day Month Year History C-K +1.36% 5.04% 16.75% 16.75% S&P: +0.63% 3.85% 13.42% 13.42% NASDAQ: +1.06% 4.81% 11.42% 11.42% Cash-King Stocks Rec'd # Security In At Now Change 2/3/98 24 Microsoft 78.27 109.31 39.66% 2/3/98 22 Pfizer 82.30 109.31 32.82% 5/1/98 37 Gap Inc. 51.09 67.13 31.39% 6/23/98 34 Cisco Syst 58.41 67.44 15.45% 2/13/98 22 Intel 84.67 95.44 12.71% 8/21/98 22 Schering-P 95.99 107.25 11.73% 2/6/98 56 T. Rowe Pr 33.67 35.75 6.17% 2/27/98 27 Coca-Cola 69.11 72.63 5.09% 5/26/98 18 AmExpress 104.07 97.31 -6.49% Foolish Four Stocks Rec'd # Security In At Value Change 3/12/98 20 Eastman Ko 63.15 78.00 23.52% 3/12/98 20 Exxon 64.34 73.50 14.25% 3/12/98 15 Chevron 83.34 83.31 -0.04% 3/12/98 17 General Mo 72.41 67.06 -7.38% Cash-King Stocks Rec'd # Security In At Value Change 2/3/98 24 Microsoft 1878.45 2623.50 $745.05 2/3/98 22 Pfizer 1810.58 2404.88 $594.30 5/1/98 37 Gap Inc. 1890.33 2483.63 $593.30 6/23/98 34 Cisco Syst 1985.95 2292.88 $306.93 8/21/98 22 Schering-P 2111.7 2359.50 $247.80 2/13/98 22 Intel 1862.83 2099.63 $236.80 2/6/98 56 T. Rowe Pr 1885.70 2002.00 $116.30 2/27/98 27 Coca-Cola 1865.89 1960.88 $94.98 5/26/98 18 AmExpress 1873.20 1751.63 -$121.58 Foolish Four Stocks Rec'd # Security In At Value Change 3/12/98 20 Eastman Ko 1262.95 1560.00 $297.05 3/12/98 20 Exxon 1286.70 1470.00 $183.30 3/12/98 15 Chevron 1250.14 1249.69 -$0.45 3/12/98 17 General Mo 1230.89 1140.06 -$90.83 CASH $120.62 TOTAL $25518.87 *Please note: On 8/4/98 $2,000 cash was added to the