As investors, we always want our investments to generate a healthy return. However, investors often forget that returns stem from two, not one, extremely important factors:

  1. the business' ability to generate profits and
  2. the price you pay for one share of those profits.

This idea of price versus returns provides the bedrock for the school of investing known as value investing. In this series, I'll examine a specific business from both a quality and pricing standpoint. Hopefully, in doing so, we can get a better sense of its potential as an investment right now.

Where should we start to find value?
As we all know, the quality of businesses vary widely. A company that has the ability to grow its bottom line faster (or much faster) than the market, especially with any consistency, gives its owner greater value than a stagnant or declining business (duh!). However, many investors also fail to understand that any business becomes a buy at a low enough price. Figuring out this price-to-value equation drives all intelligent investment research.

In order to do so today, I selected several metrics that will evaluate returns, profitability, growth and leverage. These make for some of the most important aspects to consider when researching a potential investment.

  • Return on equity divides net income by shareholder's equity, highlighting the return a company generates for its equity base.
  • The EBIT (short for Earnings Before Interest and Taxes) margin provides a rough measurement of the percent of cash a company keeps from its operations. I prefer using EBIT to other measurements because it focuses more exclusively on the performance of a company's core business. Stripping out interest and taxes makes these figures less susceptible to dubious accounting distortions.
  • The EBIT growth rate demonstrates whether a company can expand its business.
  • Finally, the debt-to-equity ratio reveals how much leverage a company employs to fund its operations. Some companies have a track record of wisely managing high debt levels, generally speaking though, the lower the better for this figure. I chose to use five-year averages to help smooth away one-year irregularities that can easily distort regular business results.  

Keeping that in mind, let's take a look at Sysco (NYSE: SYY) and some of its closest peers.


Return on Equity (5-year avg.)

EBIT Margin (5-year avg.)

EBIT Growth (5-year avg.)

Total Debt / Equity






Kroger (NYSE: KR)





United Natural Foods (Nasdaq: UNFI)





Core-Mark Holding (Nasdaq: CORE)





Source: Capital IQ, a Standard & Poor's company.

Looking at the numbers over the long term makes them appear pretty average, although this industry typically faces low margins and growth. Sysco looks like the overall leader of its peer group. It generates far stronger ROEs than any other competitor while having the strongest growth and some growth as well.

More than anything else, Kroger's leverage concerns me. While pretty unremarkable in all other respects, having more than twice the financial leverage of all of its peers raises a pretty resounding alarm for me.

United Natural leads this pack on the growth front. While not nearly as eye-popping as other industries, it demonstrated the ability to expand its business over the past several years. The fact that United Natural managed this growth without leveraging its balance sheet seems like a big plus.

Core-Mark looks like the weakest link among these companies. It produces the lowest returns and margins out of the group. Although leveraged extremely conservatively, it still looks weak from an overall performance standpoint.

How cheap does Sysco look?
To look at pricing, I chose to look at two important multiples, price to earnings and enterprise value to free cash flow. Similar to a P/E ratio, Enterprise Value (essentially debt, preferred stock, and equity holders combined minus cash) to unlevered free cash flow conveys how expensive the entire company is versus the cash it can generate. This gives investors another measurement of cheapness when analyzing a stock. For both metrics, the lower the multiple, the better.

Let's check this performance against the price we'll need to pay to get our hands on some of the company's stock.


Enterprise Value / FCF

P / LTM diluted EPS before Extra Items







United Natural Foods



Core-Mark Holding



Source: Capital IQ, a Standard & Poor's company; NM denotes a negative figure.

In looking at valuation, things get pretty interesting. Despite their relatively weak performance, none of these companies look like absolute steals. Kroger looks most attractively priced, although I still don't think it looks like an attractive buy given (a) its debt load and (b) its pretty marginal performance. Both United Natural Foods and Core-Mark look extremely expensive on a P/E basis. Sysco looks slightly expensive from a price-to-earnings perspective and extremely expensive on a cash flow basis. Keep in mind, too, that reinvesting cash flow into a company isn't always a negative. It takes additional research to differentiate between intelligent and reckless capital budgeting.

At face value, none of these companies looks like they have the right risk/reward characteristics to make them stocks for your portfolio now. Despite some recent positive developments, I prefer to wait for more favorable investments to come my way. Disciplined investors always come out ahead over the long term. I prefer to be one of them.

While Sysco stock doesn't look like a stock for your portfolio right now, the search doesn't end here. In order to really get to know a company, you need to keep digging. If any of the companies mentioned here today piques your interest, further examining a company's quality of earnings, management track record, or analyst estimates all make for great ways to further your search. You can also stop by The Motley Fool's CAPS page where our users come to share their ideas and chat about their favorite stocks or click HERE to add them to My Watchlist.

Andrew Tonner holds no position in any of the companies mentioned in this article. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.