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John Dorfman
John Dorfman
Articles (128)  | Author's Website |

Cash Flow Test Functions Like Airport Security

Getting on a plane is a two-step process

Getting on a plane is a two-step process. First you have to buy a ticket. Then you have to get through airport security.

For me, researching a stock is slightly similar. Does the stock price appear low in relation to the company’s earnings? Consider the ticket bought.

Then I want to see how the price compares to the company’s cash flow. That’s a bit like the airport security check.

Cash flow, as its name suggests, is a measure of the cash flowing through a business. It excludes intangible items such as depreciation and amortization.

Free cash flow is cash flow minus the maintenance capital expenditures a business needs to make to keep operations in good order.

Below, I suggest five stocks that look good to me based on price-to-cash flow. Each is priced at less than seven times cash flow and less than 10 times free cash flow.

The record

This is the 15th column I’ve written on this subject. The stocks recommended in the first 14 columns have returned an average of 21.8% in 12 months, compared to 8.8% for the Standard & Poor’s 500 Index over the same periods.

Of the 14 columns, 10 beat the S&P 500 and eleven were profitable.

Bear in mind that my column recommendations are theoretical and don’t reflect actual trades, trading costs or taxes. Their results shouldn’t be confused with the performance of portfolios I manage for clients. And past performance doesn’t predict future results.

Last year, results were disappointing. My picks appreciated only 6.5%, versus 16.6% for the S&P. Nice gains in Weyco Group Inc. and United Fire Group Inc. (NASDAQ:UFCS) were cancelled out by a big loss in Argan Inc. (NYSE:AGX) and a small loss in Prudential Financial Inc. (NYSE:PRU).

Here are some new choices.

Micron Technology

Based in Boise Idaho of all places, Micron Technology Inc. (NASDAQ:MU) makes memory chips used in computers, smart phones and other electronic devices. Among its customers are Intel, Apple, HP and Huawei.

In the past, Micron has not been a paragon of steadiness: It posted losses in 2007-2009, 2012 and 2016. But it’s going great guns now, and I believe the trend to faster and more sophisticated computers and smart phones will continue to drive demand for memory chip.

Gannett Co.

Okay, I’m hopelessly prejudiced in favor of newspaper companies, having spend a good part of my life working for newspapers and magazines (The Wall Street Journal, Forbes, and others). But I have to say, Gannett Co. (NYSE:GCI) looks good to me here.

Best known as the publisher of USA Today, Gannett also runs more than 100 other newspapers and web sites. Its revenue has been fairly flat in recent years in the $3 billion zone. Earnings have been declining, due partly to large depreciation charges. Cash flow paints a rosier picture.

The big question is whether Gannett can gain digital-ad revenue fast enough to offset declining print-ad revenue. The jury’s still out, but I think it has a shot.

Molson Coors

Based in Denver, Colorado, Molson Coors Brewing Co. (NYSE:TAP) makes beer, and boasts a 38% earnings growth rate over the past three years. Analysts expect that to level off. Maybe they are right, but Coors’ return on equity in the past 12 months is the company’s best since 2003.

Through a joint venture, Molson Coors plans to sell a non-alcoholic cannabis-infused drink in Canada. I don’t have any special insight into how that will go, but it might profit a nice kicker.

Arch Coal

Despite the Trump Administration’s efforts to revive it, the coal industry may never thrive again. Nonetheless, I think Arch Coal Inc. (NYSE:ARCH), based in St. Louis, Missouri, may be a good one-year or two-year play.

Coal is used mainly for making steel and generating electricity. Tariff protection for the U.S. steel industry (though a bad idea in my view) may help domestic sales of metallurgical coal. And in electric-power generation, coal may regain a bit of market share from natural gas if – as I suspect – horizonal-drilling deposits of gas deplete pretty rapidly.

Marlin Business

As a speculation, I recommend Marlin Business Services Corp. of Mount Laurel, New Jersey. The company leases copiers and other equipment to small and mid-sized businesses; it also provides financing.

To date, Marlin has processed more than one million such transactions. However, it remains a small company (market value $347 million) in a fragmented industry. The stock sells for less than five times cash flow and free cash flow.

Disclosure: I own Micron personally and for most of my clients.

John Dorfman is chairman of Dorfman Value Investments LLC in Newton Upper Falls, Massachusetts, and a syndicated columnist. His firm or clients may own or trade securities discussed in this column. He can be reached at [email protected].

About the author:

John Dorfman
John Dorfman founded Dorfman Value Investments in 1999. Previously he was a Senior Special Writer for The Wall Street Journal, executive editor of Consumer Reports, and a managing director at Dreman Value Management. His syndicated column appears on Tuesdays on this website and also in the Pittsburgh Tribune Review, Ohio.com, Virginian Pilot and Omaha World Herald.

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