We are wading through another earnings season. It’s the prime time for companies to open their books and reveal what’s going on with their numbers. A kind of open wide and say “Ah!” moment.

Of course, every financial news agency is focused on the company’s earnings per share and their revenue for that 90-day period.

But are those numbers really the best way to gauge a company’s financial health? For example, companies play so many games with earnings these days. More and more companies are reporting their own numbers … just like they did during the dot-com boom. They’re called “non-GAAP earnings” because they aren’t in line with accounting standards. And they aren’t necessarily comparable from firm-to-firm.

Many of the above attributes — and others — are part of the story. But, there’s really just one answer.

The Concept that Really Matters

During the many years I worked in turnaround consulting, I dug through all the details to uncover the true value of companies and there was consistently one thing that rose to the top every time: cash.

If a company earned enough cash, it didn’t go bankrupt. It was as simple as that.

But I’m not the only one that values cash above all else. Cash is also how Wall Street values a company.

Analysts use a “discounted CASH flow model,” otherwise known as a DCF model. The model includes a company’s forecasted future cash flows.

The model then “discounts” those flows back to today to get net present value. This process is necessary because a dollar you earn in five years isn’t worth as much as one you earn today.

If the net present value is greater than the company’s current value, we may want to buy shares.

Academics and Wall Street professionals alike use the DCF model. And in so doing, they confirm the importance of a company’s ability to generate cash.

We All Have Different Outlooks on Cash

Whether you realize it or not, you are making a decision about cash when you buy a stock. You are deciding when you want your cash.

More speculative companies expect to generate cash later. In a startup company, for example, the firm spends the initial years building a product or service. Even after you build it, you still have to find customers. Both steps consume cash.

When you have sufficient success with sales, the company may finally become cash flow positive. That means it earns more cash than it pays in expenses.

Many of these companies eventually appreciate in price.

Once you are cash flow positive, you can focus more on paying dividends, paying down debt or buying back shares.

You eventually become the company on the other end of the spectrum. This company is more mature, more established. It earns more predictable cash flow.

Vendors and employees often find it less risky to work with a cash-rich company.

The mix of cash-rich and more risky stocks for your portfolio is up to you. Many of us have both. In the auto world, an example of this would be deciding between cash-positive Fiat Chrysler and growing Tesla.

There’s nothing wrong with long-term investors adding slightly riskier stocks to a part of your investments. Some of these stocks will generate outsized returns — and cash — in the future.

Where Can I Find Companies With Cash?

There are three ways a company can get cash. It can sell shares, issue debt or produce it from operations.

If shares are depressed or rates are rising, the first two methods can become more expensive for a company.

As a result, cash-rich firms often become more sought after by investors.

One idea you can look at in that case is the Trim Tabs All Cap U.S. Free-Cash-Flow ETF (BATS: TTAC). Its managers focus on cash flow. The fund selects 100 companies in the Russell 3000 Index that are the best at growing cash flow. It also looks for companies that do a solid job reducing debt and buying back shares.

TTAC began trading in September 2016. Since then, it has outperformed the Russell 3000 by more than 10%. It has beaten the index in each year, too. Take a look:


9/28/16-10/31/18 2016* 2017 YTD thru 10/31/18
TTAC 39.5% 7.8% 25.1% 3.4%
Russell 3000 Index 29.1% 4.0% 21.1% 2.4%
* 9/28/16-12/30/16

If you decide you would like to invest in companies that have a solid base of cash, I recommend you consider this name.


Brian Christopher

Editor, Insider Profit Trader