We all know that companies generate earnings (well, at least they aim to!), but many investors haven't stopped to think about how a company uses those earnings. This is an important question to investigate if you're thinking about investing in a company.
Imagine that the NHL Demolition Co. (ticker: PUCKS), specializing in property destruction, earned $15 million on sales of $120 million this year. There are four main things it can do with that moola:
- Pay out all or some of its profits to shareholders as a cash dividend.
- Repurchase some of its own shares on the open market. (This boosts the value of the remaining shares, since the company's worth ends up being divided among fewer shares.)
- Plow that money into its ongoing operations, renting more property to destroy or hiring more destroyers.
- Invest in other business ventures, perhaps buying a smaller demolition company or a related company, such as a recycling enterprise.
A publicly traded company's main priority should be to build value for shareholders. To do that, it must determine which strategies will generate the biggest bang for the buck.
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