So much to respond to, and so little time (it's errand day) in which to respond.
But I do want to seize the moment to make a few comments about your method for estimating future discounted free cash flows. You are clear enough about how to estimate the discount & growth rates, but I do not understand how you estimate the key parameter -- future free cash flow.
In this connection, I notice that some of the stocks you own or are thinking of owning have negative free cashflow in the present; obviously you expect that to change -- but how? and by how much? They do have good operating cashflow, which makes me suspect you might really paying more attention to that than to free cashflow. The only really stellar free cash flow performers on your list are American Express and Intel (rah, rah!).
I still feel more comfortable dealing with PRESENT free cash flow: I like to feel reasonably secure, and only companies with lots of cash in the bank and minimal debt make me feel that way. I suppose you might say I operate on the principle that a bird in the hand is worth two in the bush.
When I look for companies to buy, I rule out those with high debt and/or negative free cash flow. In the process, I am sure I rule out some excellent companies with great prospects, but I don't touch anything I don't understand, and I don't understand how a well-managed company can let itself get into that fix.
You might be interested to know what companies I have actually bought that meet my criteria (which also include good sales/eps/cashflow growth, "reasonable" p/e's, good ROA and ROE, etc.). For simplicity's sake, let's just look at the price/cashflow ratio (S&P average: 16.52) and the price/free cashflow ratio (S&P average: 37.86).
The following beat the S&P (and their own industries) on both points:
Chicago Rivet & Machine (CVR): 9.78 (cashflow)/8.48 (free cashflow)
Engineered Support Systems (EASI): 12.81/9.85
Benchmark Electronics (BHE): 14.12/12.27
Herman Miller (MLHR): 16.83/12.95
Tidewater (TDW): 14.76/26.65
The following beat the S&P on one point, and make a good showing on the other:
Intel (INTC): 16.68/28.79
Compaq (CPQ): 28.38/14.13 (Incredibly low FCF)
Paul Harris (PAUH): 19.20/23.05
Western Digital (WDC): 10.15/39.64 (Great operating cashflow)
Finally you might be interested to see the finalists on a Pro Search Telescan screen I ran, where screening factors were free cash flow per share; 5-year cashflow growth; 5-year sales growth; 5 year eps growth; ROE; ROA; debt/equity (low); positive eps surprises. In order, from best to worst:
Republic Group Inc. (RGC) (An absolute all-around great little company, but in a low-ranking sector -- paper -- and with low relative strength, which is the only reason I haven't bought it yet.)
Peoplesoft (PSFT)
Tellabs (TLAB)
Cisco (CSCO)
Paychex (PAYX)
Callaway Golf (ELY)
Innovex (INVX) (Another great company not going anywhere.)
Microsoft (MSFT)
Robert Half Intl. (RHI)
Rowe T. Price (TROW)
Compaq (CPQ)
Parametric Tech Corp (PMTC)
Intel (INTC)
Champion Enterprises (CHB)
Unitrode (UTR)
On Assignment Inc. (ASGN)
Of course, there are many ways to slice this salami, but note that Intel turns up on almost all of my screens. Looking at the above numbers, I have hopes you will decide that Intel is indeed "cheap enough" for you, for a purely selfish reason. If Intel gets any cheaper, I shall have to sell it, despite all its virtues, because it will have triggered my automatic sell signal, which is when any stock I own falls below 10% of the purchase price.
One of the basic problems with using free cash flow as a value criterion is that not many people use it; hence, it is not recognized by the market as a whole, which does not pick up quickly on what you and I might see as bargains.
P.S. For the record, jbe is a she, not a he (and I won't say alas). |
