What Leggett & Platt Does With Its Cash

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, Leggett & Platt (NYSE: LEG  ) .

The first step in analyzing cash flow is to look at net income. Leggett & Platt's net income over the last five years has been impressive:

�	2011*	2010	2009	2008	2007
Normalized Net Income	$150 million	$158 million	$136 million	$138 million	$190 million

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	$280 million	$295 million	$482 million	$318 million	$465 million

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

Now we know how much cash Leggett & Platt 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 be stashed in the bank, invested in other companies, or used to pay off debt.

Here's how much Leggett & Platt has returned to shareholders in recent years:

�	2011*	2010	2009	2008	2007
Dividends	$157 million	$155 million	$157 million	$165 million	$125 million
Share Repurchases	$255 million	$130 million	$192 million	$297 million	$237 million
Total Returned to Shareholders	$412 million	$285 million	$349 million	$462 million	$362 million

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

As you can see, 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)	147	151	159	168	179

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 Leggett & Platt fall into this trap? Let's take a look:

Source: S&P Capital IQ.

This is encouraging. While there is quarter-to-quarter volatility, Leggett & Platt's buybacks are fairly consistent, regardless of share price. Very few companies can say the same these days. Given what looks like reasonable valuations in relation to earnings and cash flow, these buybacks have likely been a good deal for shareholders.

Finally, I like to look at how dividends have added to total shareholder returns:

Source: S&P Capital IQ.

Shares returned 20% over the last five years, which drops to -7% without dividends -- a nice boost to top off already decent performance.

To gauge how well a company is doing, keep an eye on the cash. How much a company earns is not as important as how much cash is actually coming in the door, and how much cash is coming in the door isn't as important as what management actually does with that cash. Remember, you, the shareholder, own the company. Are you happy with the way management has used Leggett & Platt's cash? Sound off in the comment section below.

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