Bargain shoppers beware -- tomorrow isn't your day. But if ultra-lux jewelry, and the purveyors thereof, are what interest you, then tune in bright and early for the earnings release from Tiffany (NYSE:TIF), due out before the market opens Wednesday morning.
As of this writing, expectations aren't terribly high for this retailer. While its products rarely start pricing with anything less than three digits, and can stretch out the zeros till the cows come home, analysts believe that profits growth in the third quarter of 2005 was more restrained. They're calling for Tiffany to report about a 14% rise in per-share profits on the back of 9.5% growth in revenue.
Nice? Sure. But hardly the kind of growth that justifies Tiffany's earnings multiple.
What's that? You think Tiffany actually looks reasonably priced at just 19 times trailing earnings? Well, I suppose it is at that -- if generally accepted accounting principles numbers are your thing. Like a pretty diamond ring, they're nice to look at. But also like a diamond ring, they can be used to hide a flaw behind an artfully placed prong.
In Tiffany's case, this Fool thinks the flaw is in the company's cash flow. Over the trailing 12 months, Tiffany has reported GAAP profits of $325 million, according to Capital IQ. But once you boil those "accounting numbers" down to see what real cash profits they contain, I suspect you'll see they're more dross than gold. On a cash profits basis, Tiffany has generated $233 million in cash from operations. But with the high cost of maintaining its existing store base, and building new stores, capital expenditures drained away $148 million of that cash. Result: TTM free cash flow for the company came in at a meager $85 million.
Now, divide Tiffany's ritzy $6 billion market cap by its real cash profits, and here's what you get: a price-to-free cash flow ratio of better than 70. For comparison, that's about four times as much as the stock market as a whole fetches -- but the market as a whole is projected to grow nearly as fast as Tiffany itself (12% vs. 13%).
Now, to be fair, Tiffany has been making real efforts, and real progress, to improve this situation in recent quarters. After the inventory pileups that bracketed last year's Christmas season (when inventories rose 26% and 21% year over year, in the 2004 third and fourth quarters), Tiffany has been much more restrained in piling up its rocks this year. Last quarter, it grew sales by 11%, but inventories by just 3%. As a result, inventories are slowly sloping downward, and with any luck, that will free up more cash flow in the future. Tomorrow, therefore, when window-shopping Tiffany's numbers, that's where I'd suggest focusing: Are inventories being worked down or not?
Fool contributor Rich Smith does not own shares of Tiffany.
