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, T. Rowe Price
The first step in analyzing cash flow is to look at net income. T. Rowe Price's net income over the last five years has been impressive:
|
2011* |
2010 |
2009 |
2008 |
2007 |
|
|---|---|---|---|---|---|
| Normalized Net Income | $787 million | $679 million | $439 million | $530 million | $673 million |
Source: S&P Capital IQ. *12 months ended Sept. 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 | $896 million | $615 million | $402 million | $598 million | $612 million |
Source: S&P Capital IQ. *12 months ended Sept. 30.
Now we know how much cash T. Rowe Price 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, used to invest in other companies, or to pay off debt.
Here's how much T. Rowe Price has returned to shareholders in recent years:
|
2011* |
2010 |
2009 |
2008 |
2007 |
|
|---|---|---|---|---|---|
| Dividends | $309 million | $279 million | $257 million | $313 million | $180 million |
| Share Repurchases | $462 million | $240 million | $71 million | $614 million | $312 million |
| Total Returned to Shareholders | $771 million | $519 million | $328 million | $927 million | $492 million |
Source: S&P Capital IQ. *12 months ended Sept. 30.
As you can see, the company has repurchased a decent amount of its own stock. That's caused shares outstanding to fall, if only slightly:
|
2011* |
2010 |
2009 |
2008 |
2007 |
|
|---|---|---|---|---|---|
| Shares Outstanding (millions) | 257 | 257 | 256 | 259 | 265 |
Source: S&P Capital IQ. *12 months ended Sept. 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 T. Rowe Price fall into this trap? Let's take a look:
Source: S&P Capital IQ.
There was a dip in buybacks when share prices slid in 2009, but given reasonable valuations and a fairly range-bound share price over the last five years, T. Rowe's buybacks have likely been a decent deal for shareholders.
Finally, I like to look at how dividends have added to total shareholder returns:
Source: S&P Capital IQ.
Shares returned 53% over the last five years, which drops to 38% without dividends -- a nice boost to top off already respectable 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 T. Rowe Price's cash? Sound off in the comment section below.
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