Upon learning last week> that Cisco (CSCO) was killing Flip, the pocket video camera it acquired for $590 million when it bought start-up Pure Digital in May 2009, my first thought was "Brewster's Millions." In the 1985 film, Richard Pryor's character must waste $30 million in 30 days to inherit $300 million. With Flip, Cisco has effectively pulled near-Brewsters for 23 consecutive months.
My second thought was that the company is hoarding enough cash to buy 40 more Flips.
A Cisco spokesman said the company will defer additional comments on Flip until its earnings conference call on May 11. For now, let me offer a bit of a defense on Cisco's behalf. Analysts say the move was a signal to investors that the company is renewing its focus on its core enterprise networking business (although for 550 laid-off Flip workers it was a costly signal). Flip was a top-seller, so recent profits from the division might have offset part of the cost, and the underlying technology surely has residual value for Cisco's videoconferencing products. In a press release, the company said it would record a restructuring charge of up to $300 million in the second half of this year (just less than half a Brewster per month since the acquisition). Finally, last month Cisco announced its first dividend, so it's starting to part with cash. The payment works out to only 15% of this year's projected profit, and with the stock trading at its 1998 price investors surely deserve more, but then, this was supposed to be a defense.
Below are listed three companies with plenty of cash, no dividends and a sign that should give investors pause: low returns on invested capital. Cisco, notwithstanding its idle funds and Flip flop, earned a 12% return on its invested capital over the past year, versus a median of 8% for profitable U.S. companies, suggesting that its managers have gotten good results with most of the money they've put to work. The following companies have produced ROICs below 8% over the past year and on average over the past five years.
Net cash & short-term investments / market value: 30%
Return on long-term capital: n/a
A National Football League player lockout is in its second month, with players and owners in court-ordered mediation over a new collective bargaining agreement. It's difficult to imagine the season will be lost, but BMO Capital Markets has already reduced its earnings forecast for Electronic Arts (ERTS), publisher of the bestselling Madden NFL video game, but 10 cents a share, or 11%. As important to the company's fortunes is its release of a new Star Wars game next year. What sets the title apart is that it's a web-based game with recurring subscription fees, like the wildly popular World of Warcraft. If the game lures two million subscribers it should add 15 cents a share to yearly earnings, BMO reckons. The shift to "cloud" gaming makes it less likely Electronic Arts will buy another company with a catalog of installable games like Take Two (TTWO), analysts say, and last year Electronic Arts produced fewer games in order to rein in high operating costs. That raises the question of why the company needs so much cash. Management recently announced a $600 million share repurchase program. A fast completion of that program and another just like it would cut the company's cash and investments to 12% of its stock market value -- a more suitable figure.
Net cash & short-term investments / market value: 24%
Return on long-term capital: 4.2%
Verisign (VRSN) operates the Internet's .com and .net top-level domains, which means it makes money as the number of websites grows. Growth is steady and margins are healthy, but as one Jefferies & Company analyst puts it, there are "not a lot of moving parts" to the business. Shares sell for about what they went for 12 years ago. The company needs some of its massive cash stockpile, because it's the subject of a lawsuit claiming anti-competitive practices, but $2 billion seems too much for a company that's valued by investors at $6.3 billion. Promisingly, management paid a one-time dividend of $3 a share in December at a cost of $518 million. A couple more of those would do nicely.
Net cash & short-term investments / market value: 13% (as of Dec. 31, 2010)
Return on long-term capital: 6.4%
Yahoo (YHOO) topped Wall Street's earnings estimates late Tuesday on a rise in display advertising -- welcome news for investors. The company has slashed costs and boosted its profit margin over the past year but has produced little growth. A search partnership with Microsoft (MSFT) hasn't yielded much by way of click price increases, analysts say, and Google (GOOG) and Facebook are competing fiercely for display advertisements. The company said Tuesday that income from operations during the first quarter increased 1%. Shares might represent a good deal at their current price. According to investment bank Evercore Partners, the company's off-balance-sheet assets, including its investment in Yahoo Japan, imply that its U.S. business is valued at just $2 to $3 a share net of cash. Also, last year the company spent $1.7 billion to repurchase shares. (The pace slowed to $137 million during the first quarter of 2011.) To that, here's one-half of a "job well done." The other half will cost another $2 billion in buybacks.