In the quest to find great investments, most investors focus on earnings to gauge a company’s financial strength. This is a good start, but earnings can be misleading and incomplete. To get a clearer understanding of a company’s ability to earn money and reward you, the shareholder, it’s often better to focus on cash flow. In this series, we tear apart a company’s cash flow statement to see how much money is truly being earned, and more importantly, what management is doing with that cash.

Step on up, Waste Management (NYSE: WM  ) .                                        

The first step in analyzing cash flow is to look at net income. Waste Management’s net income over the past five years has been impressive:

 

2011*

2010

2009

2008

2007

Normalized Net Income

$ 1.0 billion

$ 1.0 billion

$ 1.0 billion

$ 1.1 billion

$ 1.1 billion

Source: S&P Capital IQ.
*12 months ended Sept. 30.

Next, we add back in a few non-cash expenses like the depreciation of assets, and adjust net income for changes in inventory, accounts receivable, and accounts payable — changes in cash levels that reflect a company either paying its bills, or being paid by customers. This yields a figure called cash from operating activities — the amount of cash a company generates from doing everyday business.

From there, we subtract capital expenditures, or the amount a company spends acquiring or fixing physical assets. This yields one version of a figure called free cash flow, or the true amount of cash a company has left over for its investors after doing business:

 

2011*

2010

2009

2008

2007

Free Cash Flow

$ 1.1 billion

$ 1.2 billion

$ 1.2 billion

$ 1.4 billion

$ 1.2 billion

Source: S&P Capital IQ.
*12 months ended Sept. 30.

Now we know how much cash Waste Management is really pulling in each year. Next question: What is it doing with that cash?

There are two ways a company can use free cash flow to directly reward shareholders: dividends and share repurchases. Cash not returned to shareholders can either be stashed in the bank, used to invest in other companies, or used to pay off debt.

Here’s how much Waste Management has returned to shareholders in recent years:

 

2011*

2010

2009

2008

2007

Dividends $ 631 million $ 604 million $ 569 million $ 531 million $ 495 million
Share Repurchases $ 586 million $ 501 million $ 226 million $ 410 million $ 1.4 billion
Total Returned to Shareholders $ 1.2 billion $ 1.1 billion $ 795 million $ 941 million $ 1.9 billion

Source: S&P Capital IQ.
*12 months ended Sept. 30.                      

The company has repurchased a decent amount of its own stock. That’s caused shares outstanding to fall:

 

2011*

2010

2009

2008

2007

Shares Outstanding (Millions) 473 480 491 492 517

Source: S&P Capital IQ.
*12 months ended Sept. 30.

Now, companies tend to be fairly poor at repurchasing their own shares, buying feverishly when shares are expensive and backing away when they’re cheap. Does Waste Management fall into this trap? Let’s take a look:

Source: S&P Capital IQ.

Yahoo! Finance: Waste Management Industry News

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