The virtualization expert easily beat expectations on both the top and bottom lines, showing third-quarter sales of $714 million and GAAP earnings of $0.20 per share. In addition, management raised its fourth-quarter outlook on both counts far above analyst expectations. But operating cash flow came in at $197 million, 1% below the year-ago period.
The company was quick to put a positive spin on that item: If you don't back out $79 million of beneficial tax effects from a huge stock-based compensation component, you'd get a 28% year-over-year increase in decidedly non-GAAP free cash flows.
When I see growing sales and earnings but shrinking cash flows, it makes me question the quality of the earnings. And when management bends over backwards to make it sounds like we shouldn't worry about it, I worry some more. I like VMware's business in general, because the company is a leader in the red-hot virtual computing space and holding its own against determined assaults by Microsoft
VMware's management says that it cares a lot about cash flows, as CFO Mark Peek professes a deep respect for the unusual but very Foolish metric of free cash flow per share: "We're paying increasing attention to the metric as a measure of financial progress in our business, as it balances operating results, cash management, capital efficiency, and share dilution."
Well put, Mark. But company reporting bastardizes that cherished figure by effectively backing out a very legit and rather large line item. That lets you report a healthy cash flow increase instead of the decline we'd have seen without adding back these tax benefits.
Are you more forgiving of VMware's accounting faults? Tell me off in the comments below.
Fool contributor Anders Bylund holds no position in any of the companies discussed here. Microsoft is a Motley Fool Inside Value pick. VMware is a Motley Fool Rule Breakers recommendation. Motley Fool Options has recommended a diagonal call position on Microsoft. The Fool owns shares of International Business Machines, and Microsoft.
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