Five stocks that know what to do with their money
A wise use of cash flow may be the most revealing key to a company’s future, says a U.S. advisory that singles out five stocks that know how to spend.
How you spend your money says a lot about you.
How a company spends its money says a lot about it.
And if you watch carefully just how companies spend their money, you’ll spend your money much more productively as an investor.
“Cash flow is the lifeblood of most firms, and how a company deploys it can say volumes about the growth outlook.”
Those are the words of one U.S. advisory we consult frequently, Dow Theory Forecasts. It specializes in crunching the numbers.
In this case, its concentration on cash flow is really a combination of common sense and calculations. Money well spent will invariably reward a company and its shareholders.
And companies that are rich in cash can withstand shocks in the economy and the markets better than those with shallow pockets.
The advisory has five criteria that reveal a company’s prudent use of cash flow. It highlights four companies that make the grade on most of those criteria — and adds a fifth stock it likes too much to leave out.
Dividends are the key
The list of good things to do with cash begins with dividends.
Contrary to the opinion of some, this advisory’s figures show that dividends do not stunt a company’s growth but actually promote it.
“Dividends are the key to many stocks’ total returns,” says this advisory. “And the act of increasing a dividend often suggests corporate managers believe in a firm’s ability to generate earnings and continued cash flow.”
Higher capital spending is another good sign. Investing in plants and machinery is obviously good for growth over the long haul. “Moreover, companies that increase capital spending, particularly during a sluggish economy, tend to be confident in their prospects.”
Buying back shares is usually beneficial as well, says the advisory. It automatically reduces per-share profits.
“Also, the fact that a company views its stock as a good investment may imply that the shares are undervalued.”
A clear advantage
One of the best things anybody can do with cash flow is pay down debt. Companies that repay and restructure debt strengthen their balance sheets and reduce borrowing costs.
They also achieve greater financial flexibility, which can be a key competitive advantage, with acquisitions, for instance.
Last but clearly not least is the willingness to spend on research and development — a clear advantage at a time of rapid technological change.
Companies that put their cash into R&D “make a positive statement about their commitment to growing sales.”
The stocks the company highlights all have two things in common — each generates solid cash flow from operations and each has raised its dividend in the past 12 months.
We begin with a stock that has spent its cash very wisely — but still takes a back seat to another stock in its field.
The biggest deal
Applied Materials (NASDQ-AMAT) is “a bellwether in the semiconductor equipment space,” says the advisory and it has done just about everything right. Its sales and cash flow have risen for five quarters in a row, while it has trimmed its share count, lowered debt by 4 per cent, and raised its dividend by 14 per cent in March.
The stock trades at $14.48 (and at a low forward price/earnings ratio) and yields 2.2 per cent on the $0.32 dividend.
Still, if you want a stock in the semiconductor field, this advisory continues to prefer Lam Research (NASDQ-LRCX), a stock that we profiled a week ago (see Daily Buy-Sell Adviser, April 12).
This stock, which trades at $49.93, with no dividend, is a Focus List Buy (best buy for the next 12 months).
The most famous name on this list is surely Texas Instruments (NYSE-TXN), one the longer lasting firms in the volatile high-tech world. It had a spectacular year in 2010, says the advisory, rising in all four quarters and growing by 45 per cent.
That growth came with much higher spending on testing and manufacturing equipment, along with $199 million poured into acquisitions to expand manufacturing capacity in China and Japan.
Its biggest deal, however, has been the acquisition of National Semiconductor (NYSE-NSM) for $6.5 billion. Texas Instruments is aiming at “a new generation of semiconductors that let smartphones run multiple operating systems and take higher-resolution pictures.”
The stock trades at $34.44, yields 1.5 per cent on a dividend of $0.52 and is both a Focus List and Long-Term Buy (best buy for 24 months).
Brain surgery
The final two stocks make medical devices. Bard (NYSE-BCR) is in the vascular, urology and oncology fields as well as making surgical products. It turned out a record $638 million in operating cash flow last year.
That cash is being put to considerable use in share buybacks, capital spending and acquisitions. Last July it made its biggest acquisition with SenoRx, which makes medical devices to treat breast cancer.
Bard’s profits should rise by 14 per cent in 2011. It trades at $101.97, yields 0.7 per cent on a $0.72 dividend. It’s a Buy and Long-Term Buy
Stryker (NYSE-SYK) also put its considerable cash into a big acquisition, buying Boston Scientific’s neurovascular business in January. This new unit, which specializes in brain surgery products, should offset sluggish growth in Stryker’s orthopedic business.
Despite the orthopedic slowdown, Stryker has had six straight years of accelerating cash flow from operations, while increasing the dividend to the tune of 37 per cent. Both capital spending and R&D spending are well up.
The stock trades at $60.37, yielding 1.2 per cent on its $0.72 dividend. It’s a Long-Term Buy.
Companies that make lots of money are good buys. But before you put your money down on them, says this advisory, make sure they spend that money wisely.
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