Friday, June 05, 1998

Cash-King Portfolio Report
by Tom Gardner
by Al Levit

Alexandria, VA (June 5, 1998) -- We're joined today by the third Cash-King writer/manager, Al Levit, ringing in from Los Angeles. Al's going to talk primarily about the balance sheet today, to close out our thoughts on reviewing the nominations for C-K Slot 8 -- which at its outset will be the largest investment we've made in our portfolio.

Before talking to Al, I want to remind everyone that midnight tonight marks the close of the nomination process. Drop by the Cash-King Companies Folder to make your suggestion. Also, after the close of that deadline, that folder will continue to be our place for company-level discussions. Alternately, our old C-K folder has now been labeled Cash-King Strategy, there for everything from how to apply certain ratios, how to allocate a C-K portfolio, to the general search for new ideas.

Ok, let's get to the talk.

Tom: Al, in looking for the Top Five nominations in the C-K folder, can you name three qualities you'll be watching for on the balance sheet of these various companies?

Al: The first thing I look at on the balance sheet is the long-term debt. I'm looking for as little as possible in relation to cash.

To the extent that there is any debt, the ratio of cash to debt is very important to me. In our ideal scenario, cash is 150% of (or 1.5x) long-term debt. It's also important to know the ratio of debt to equity and debt to sales. We do make exceptions for debt from acquisitions, but generally prefer companies that can create, grow, acquire, and re-create without going to the bank well.

The second thing that I look for is a low Flow Ratio, which I know you're going to ask me about. So I'll delve into it below.

And the third? I always like to look at the last few years of balance sheets -- to get a sense of whether the company is actively managing any problems that may be apparent. If it had inventory problems two years ago, is it directionally on target now? If its debt ran high four years ago and it hasn't made acquisitions since then, has the company been reducing debt since then?

So, the three qualities I look for are 1) good cash position relative to debt; 2) a low Foolish Flow; 3) gradual ascension out of any weaknesses over the past five years.

Tom: Ok, you mentioned the Flow Ratio. Can you explain the Flow Ratio, the purpose of it, and the importance of it to the approach?

Al: First off, the Flow Ratio is defined as

(Current Assets - Cash) / (Current Liabilities)

We use the Flow Ratio to determine whether the company is efficiently managing customer demand, the flow of products out the door, and its cash position. A company earns our fealty if it:

a) demands payment up front from its distributors (low current assets)

b) reduces inventories to the absolute minimum (low current assets)

c) legally withholds cash from suppliers as long as possible (high current liabilities)

We look for potential Cash-Kings to have Flow Ratios of less than 1.25 -- ideally less than 1.00. And we prefer to see them falling year to year. In general, we don't believe that companies with Flow Ratios higher than 1.25 have enough control over their business, or make good enough uses of their cash, to warrant putting our own cash into the mix.

Tom: Al, let's say you find a company that meets all of the criteria above. It is flush with cash and debt-free, and it rigorously manages its Flow. Further, let's say it meets the criteria outlined by your pals, Rob and Phil, over the past two days. Given all that, is there any particular business quality that would disqualify a nominee for you?

Al: I wouldn't want my money used to make a profit from a product that I found morally revolting, even if it were legal. Fortunately, I think that 99.9% of the public businesses out there make products that are decidedly neutral on this point (even boring, to quote our colleague Greg Markus). So my top disqualifier here would kick out only a few businesses.

Tom: Let's go the other way for a second then -- could you share a one-paragraph description both of your single favorite public company in the world and why?

Al: Alas, I've never worked for them. And I've never competed against them -- thank heavens. But as a user and shareholder, my single favorite company has to be Microsoft. I've currently got four MS programs open in front of me. They all work. They're all neatly integrated. And they were relatively inexpensive to purchase. I know there's a lot of controversy about Mr. Softy -- but step away from the grumblings in the industry and I think you'll find millions of satisfied customers.

Further, I don't believe I need to tell anyone how wonderful an investment Microsoft has been over the last ten years. Recently, I've been looking into their development projects with the Web and Window CE, and the next few years seem just as promising -- if not more so. And I say that with full knowledge of the current shenanigans by the Department of Justice. I'll have more to say on that in a couple of weeks when I take my regular turn in this space.

Tom: Let's move beyond finance to close -- Al, who's your favorite 20th century American musician, and why?

Al: John Tesh. And not just because he wrote the NBA theme song (although that didn't hurt). His particular brand of New Age music really appeals to me and my seven-year-old son, Alex.

Oh, and speaking of the NBA, in case anybody cares, I figure it'll be the Jazz in six.

Tom: Jazz, eh? I won't be watching any of the games, but I'll check to see if you're wrong! Thanks for hangin' with us for a few questions, Al.

Al: No prob.

Ok, to close this evening: Again, the last submissions we'll be taking must be posted before midnight tonight. Have a great weekend. And, if you're thinking about buying a car this weekend or this summer, drop by our Buying a Car area. We've been receiving notes from Fools saving $1,000 - $3,000 so far. That money plinked into the market ain't small potatoes in 20 years. And all for reading a collection online.

Oh, and, go Gap! :)

Fool on!


Stock  Change    Bid 
 AXP   +  9/16  104.50 
 CHV   +2 1/4   82.50 
 KO    +1 7/8   82.06 
 GPS   +2 7/8   59.13 
 EK    +  9/16  69.56 
 XON   +1 1/2   71.81 
 GM    -  3/16  75.25 
 INTC  +1 9/16  69.75 
 MSFT  +  3/16  86.19 
 PFE   +1 1/2   108.38 
 TROW    ---    35.00 
                  Day   Month    Year  History 
         C-K      +1.46%   2.18%   8.07%   8.07% 
         S&P:     +1.74%   2.11%  11.24%  11.24% 
         NASDAQ:  +0.73%   0.23%   7.87%   7.87% 
 Cash-King Stocks 
     Rec'd    #  Security     In At       Now    Change 
     2/3/98   22 Pfizer        82.30    108.38    31.68% 
    2/27/98   27 Coca-Cola     69.11     82.06    18.75% 
     5/1/98   37 Gap Inc.      51.09     59.13    15.73% 
     2/3/98   24 Microsoft     78.27     86.19    10.12% 
     2/6/98   56 T. Rowe Pr    33.67     35.00     3.94% 
    5/26/98   18 American E   104.07    104.50     0.42% 
    2/13/98   22 Intel         84.67     69.75   -17.63% 
 Foolish Four Stocks 
     Rec'd    #  Security     In At     Value    Change 
    3/12/98   20 Exxon         64.34     71.81    11.62% 
    3/12/98   20 Eastman Ko    63.15     69.56    10.16% 
    3/12/98   17 General Mo    72.41     75.25     3.93% 
    3/12/98   15 Chevron       83.34     82.50    -1.01% 
 Cash-King Stocks 
     Rec'd    #  Security     In At     Value    Change 
     2/3/98   22 Pfizer      1810.58   2384.25   $573.67 
    2/27/98   27 Coca-Cola   1865.89   2215.69   $349.80 
     5/1/98   37 Gap Inc.    1890.33   2187.63   $297.30 
     2/3/98   24 Microsoft   1878.45   2068.50   $190.05 
     2/6/98   56 T. Rowe Pr  1885.70   1960.00    $74.30 
    5/26/98   18 American E  1873.20   1881.00     $7.80 
    2/13/98   22 Intel       1862.83   1534.50  -$328.33 
 Foolish Four Stocks 
     Rec'd    #  Security     In At     Value    Change 
    3/12/98   20 Exxon       1286.70   1436.25   $149.55 
    3/12/98   20 Eastman Ko  1262.95   1391.25   $128.30 
    3/12/98   17 General Mo  1230.89   1279.25    $48.36 
    3/12/98   15 Chevron     1250.14   1237.50   -$12.64 
                               CASH   $2037.63 
                              TOTAL  $21613.44 
 *The year for the S&P and Nasdaq will be as of 02/03/98