Wednesday, November 19, 2008
WEEKDAY TRADER
Stocks With a Cash Cushion
By TIERNAN RAY
With earnings estimates imploding, companies trading for close to their cash value look like a smart bet.
VALUATION MULTIPLES FOR stocks have mostly succumbed to wave upon wave of bad news, as earnings expectations become unreliable.
That's why, more than ever, cash on the balance sheet has become the primary indicator of a stock's worth.
Barron's Online conducted a screen of over 1,000 companies with more than $250 million in cash and equivalents, and came up with a list of five trading at less than two times the net cash on their balance sheets.
As you might expect, technology stocks, which have been cash-rich in general, dominate the list, with networking equipment vendor Sycamore Networks (ticker: SCMR), chip maker Exar (EXAR), and chip-equipment maker FormFactor (FORM) topping our list. Our two nontech winners were Chico's FAS (CHS), the lady's apparel chain, and Ashland (ASH), the maker of Valvoline.
In selecting these five stocks, we measured the market cap of the companies against their net cash position -- that is, the amount of cash and equivalents left after subtracting whatever long-term debt the companies carry.
All of the stocks we picked had the virtue of keeping costs under control and maintaining little or no debt, both virtues in times of slowing growth and tight capital markets.
And all the stocks are down between 30% and 90% in the last 12 months, meaning they've already taken a hit for the declining state of their business.
With stocks trading for cash or just a bit more, an investor is basically buying the existing business for little or nothing at all.
What kinds of stocks didn't make the cut? We eliminated outright both financial firms and insurers, which keep lots of cash in reserve to cover short-term obligations.
We also avoided stocks with debt outweighing cash, in an attempt to find the cleanest balance sheets at the lowest valuation multiples.
We excluded foreign companies, as their financial reporting is not frequent enough. And we excluded companies whose stocks are cheap, but whose core business is in steep decline.
There are reasons to be optimistic about each of our five picks.
Sycamore Networks was once a dot-com darling, a favorite to compete against Cisco Systems (CSCO). It struggled mightily to recover from the Internet implosion of 2001 and has managed to eke out between $100 million and $150 million in sales of networking equipment each year. The same decline in capital investment that has caused Cisco trouble of late has hit Sycamore's sales outlook, with revenue projected to fall 30% in the year ending in July.
But Sycamore has $821 million in net cash on its books, half of it in marketable debt securities, and Sycamore has managed to sell a chunk of those marketable securities in the last nine months, adding $100 million to its real cash holdings.
There's no reason an acquirer couldn't buy those assets and sell the investments for cash in just the same way.
Exar, a $256 million market-cap chip company based in Fremont, Calif., still has high expectations for growth, with analysts modeling 7% revenue growth next year. That could be unrealistic, but the company trades at roughly one times the $245 million in net cash it had as of the end of September.
Three-quarters of that money is in fixed-income, available-for-sale securities.
What's encouraging is that the cash derived from operations is improving as the company has reined in its selling, general and administrative costs, and the company has swung from a net loss to a net profit in the most recent quarter. That means Exar will be better able to fund its own operations and preserve more of its cash going forward.
FormFactor makes machines that check semiconductor wafers for defects. Sales of such equipment will be cut in half this fiscal year as the semiconductor market declines for the first time since 2001. However, even after three quarters of losses, the company still has $535 million in net cash, having successfully sold much of its marketable securities.
FormFactor's products will be in demand when chip growth returns, and there's no reason an acquirer with strong cash flows couldn't buy the company for its stockpile of cash in the meantime.
At Ashland, maker of Valvoline motor oil, sales are slowing drastically with the general decline in the economy. Revenue will probably rise 11% next year, say analysts, down from this year's 16.5% growth. However, gross profit, which has been under pressure this year, could improve as commodity prices for basic ingredients in Valvoline continue to decline.
Ashland has a straightforward balance sheet, with $820 million in net cash in the form of actual cash deposits, not investments. Moreover, the company has managed to keep capital expenditures in check over the last four quarters, while raising prices to pass along some commodity-cost increases. That has substantially reduced the company's cash burn rate in the last four quarters.
Lastly, Chico's, the ladies' apparel retailer, has managed to rein in capital expenditures to compensate for declining sales. Capital spending at Chico's fell by more than half in the last four quarters, even as sales declined only slightly. The result is that Chico's $278 million in cash and short-term investments has declined only marginally from a year ago.
All five companies still face economic headwinds and the possibility that estimates could implode. But the stocks are worth a second look, given that abundant cash will likely lure value investors to these beaten-down shares.
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Cash-Rich Stocks for Tough Times
Company Name Price Change, Last 12 Months Market Cap (mil) Net Cash* (mil) Market Cap/Net Cash
Ashland 70% $1,000 $820 1.22
Chico's FAS 84% $307 $278 1.10
Exar 38% $251 $245 1.02
FormFactor 68% $596 $535 1.11
Sycamore Networks 33% $721 $821 0.88
* Cash and cash equivalents minus long-term debt.
Sources: Yahoo Finance, Thomson Reuters, company reports.
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