In the quest to find great investments, most investors focus on earnings to gauge a company's financial strength. This is a good start, but earnings can be misleading and incomplete. To get a clearer understanding of a company's ability to earn money and reward you, the shareholder, it's often better to focus on cash flow. In this series, we tear apart a company's cash flow statement to see how much money is truly being earned and, more importantly, what management is doing with that cash.
Step on up, Eaton Vance
The first step in analyzing cash flow is to look at net income. Eaton Vance's net income over the last five years has been impressive:
2011* |
2010 |
2009 |
2008 |
2007 |
|
---|---|---|---|---|---|
Normalized Net Income | $240 million | $214 million | $150 million | $183 million | $210 million |
Source: S&P Capital IQ. *12 months ended Oct. 30.
Next, we add back in a few non-cash expenses, like the depreciation of assets, and adjust net income for changes in inventory, accounts receivable, and accounts payable -- changes in cash levels that reflect a company either paying its bills, or being paid by customers. This yields a figure called "cash from operating activities" -- the amount of cash a company generates from doing everyday business.
From there, we subtract capital expenditures, or the amount a company spends acquiring or fixing physical assets. This yields one version of a figure called free cash flow, or the true amount of cash a company has left over for its investors after doing business:
2011* |
2010 |
2009 |
2008 |
2007 |
|
---|---|---|---|---|---|
Free Cash Flow | $162 million | $86 million | $174 million | $126 million | $294 million |
Source: S&P Capital IQ. *12 months ended Oct. 30.
Now we know how much cash Eaton Vance is really pulling in each year. Next question: What is it doing with that cash?
There are two ways a company can use free cash flow to directly reward shareholders: dividends and share repurchases. Cash not returned to shareholders can be stashed in the bank, invested in other companies, or used to pay off debt.
Here's how much Eaton Vance has returned to shareholders in recent years:
2011* |
2010 |
2009 |
2008 |
2007 |
|
---|---|---|---|---|---|
Dividends | $85 million | $78 million | $73 million | $70 million | $63 million |
Share Repurchases | $199 million | $121 million | $54 million | $38 million | $565 million |
Total Returned to Shareholders | $284 million | $199 million | $127 million | $108 million | $628 million |
Source: S&P Capital IQ. *12 months ended Oct. 30.
As you can see, the company has repurchased a decent amount of its own stock. That's caused shares outstanding to fall:
2011* |
2010 |
2009 |
2008 |
2007 |
|
---|---|---|---|---|---|
Shares Outstanding (millions) | 115 | 116 | 116 | 116 | 122 |
Source: S&P Capital IQ. *12 months ended Oct. 30.
Now, companies tend to be fairly poor at repurchasing their own shares, buying feverishly when shares are expensive and backing away when they're cheap. Does Eaton Vance fall into this trap? Let's take a look:
Source: S&P Capital IQ.
Sure enough, Eaton Vance bought back a lot of stock in 2007 when shares were fairly high and pulled way back in 2009 as they cratered. Whether this was a prudent way to save cash as the economy looked about to implode or a classic example of buying high and panicking low is up for debate. In general, it doesn't appear management has been the most astute buyer of its own stock.
Finally, I like to look at how dividends have added to total shareholder returns:
Source: S&P Capital IQ.
Shares returned -11% over the last five years, which drops to -20% without dividends -- a nice boost to top off otherwise poor performance.
To gauge how well a company is doing, keep an eye on the cash. How much a company earns is not as important as how much cash is actually coming in the door, and how much cash is coming in the door isn't as important as what management actually does with that cash. Remember, you, the shareholder, own the company. Are you happy with the way management has used Eaton Vance's cash? Sound off in the comment section below.
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