It seems that investment banks could save their clients a lot of money if they'd just hire Staples (Nasdaq: SPLS ) to print out a batch of pink slips for their analysts, and photocopy the earnings forecasts of the companies those analysts cover. So far as I can tell, that's about all the analysts do themselves.
Take Staples itself, for example. The company reports its third-quarter 2005 earnings tomorrow morning. Analysts have the company pegged to produce $0.32 per diluted share in profits for the quarter on $4.2 billion in sales. Furthermore, analysts predict $1.11 in profits for this fiscal year, and $1.26 for fiscal 2006.
Sound familiar? It should. Barely a month ago, Staples issued an update of its previous earnings expectations, calling for -- get ready -- $0.32 for this quarter; $1.11 for this fiscal year; and $1.20 to $1.26 for fiscal 2006. Anyone else get the impression that analysts were copying someone else's homework?
Not that I spend a lot of time worrying about malleable GAAP earnings. I'd much rather hear analysts explain the apparent deterioration of Staples' balance sheet and cash flow. Last quarter, Staples reported a 12% rise in revenues, which it translated into a 20% increase in profits per share year over year. Impressive, right? But the company's accounts receivable grew 29% -- more than twice as fast as sales.
Over a longer time span, the company has apparently generated even more profits. In the past 12 months, it's grown its net earnings under generally accepted accounting principles (GAAP) by 22%, compared to the 12 months before that. However, in the same two 12-month periods, Staples' free cash flow stagnated. The firm generated $840 million in FCF over the past 12 months, $9 million less than over the 12 months previous.
Granted, in both periods the company demonstrated superior earnings quality, with free cash flow far exceeding reported GAAP income numbers ($840 million vs. $766 million; $849 million vs. $626 million). But the gap between GAAP and free cash flow is narrowing, and earnings quality is falling. Analysts may not be talking about these numbers, but when earnings come out tomorrow, this is the trend Fools should pay attention to.
For an even more pronounced cash flow/earnings trend story, check out Office Depot (NYSE: ODP ) . Recent Fool articles on the company include:
Fool contributor Rich Smith does not own shares in any company named above.
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