YRC Worldwide Might Be Cheaper Than You Think

Here's why YRC Worldwide (Nasdaq: YRCW) might be cheaper than you think.

In the daily noise machine of CNBC, analyst estimates, and quarterly announcements, investors are inundated with talking heads obsessing over earnings-per-share figures.

This is the primary metric we use to mark corporate progress. Earnings, or net income, are also the basis for the price-to-earnings ratio, the most popular way of measuring how cheap or expensive a stock is.

Unfortunately, "earnings" figures don't always give you the full picture.

Let me explain
Reported earnings are an accounting construction that may or may not accurately reflect a company's true earnings power. Free cash flow -- the amount of cash a company earns on its operations minus what it spends on them -- is another, oftentimes more accurate metric that can help you identify cheap stocks.

Better still, it's one that other investors frequently overlook. That means investors like us who peek at free cash flow can gain a significant advantage in the market.

How YRC stacks up
If YRC tends to generate more free cash flow than net income, there's a good chance earnings-per-share figures understate its profitability and overstate its price tag. Conversely, if YRC consistently generates less free cash flow than net income, it may be less profitable and more expensive than it appears.

This graph compares YRC's historical net income to free cash flow. (I omitted various gains and charges such as tax deferrals, restructurings, and benefits related to stock options.)

Source: Capital IQ, a division of Standard & Poor's, and author's calculations.

As you can see, YRC has a tendency to produce more free cash flow than net income.

This means that the standard price-to-earnings multiple investors use to judge companies – N/A for companies like YRC with negative earnings -- may overstate its price tag.

Let's examine YRC alongside some of its peers for additional context:

Despite negative reported earnings, YRC actually has a very low price-to-free-cash-flow ratio. Two caveats: If we take debt into account, as in the third column, that multiple expands significantly. YRC's debt burden is significant enough that bankruptcy is a fear for many investors.

Also, I excluded cash gains or losses from deferred income taxes in my free cash flow calculations because it fluctuates and isn't indicative of YRC's operating performance. However, YRC would have been cash flow negative over the past 12 months without this adjustment.

But regardless of how you measure it, YRC generates more free cash flow than net income. Its stock may be cheaper than many investors realize -- if the company manages to survive.