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Windy City Summit. Update on Uses of Cash & Subsequent Returns on Share Prices June 6, 2012. W. Mark Meierhoffer Practice Leader and Senior Consultant. Takeaway.

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slide1

Windy City Summit

Update on Uses of Cash &

Subsequent Returns on Share Prices

June 6, 2012

W. Mark Meierhoffer

Practice Leader and Senior Consultant

takeaway
Takeaway

Provide an Understanding of the Alternatives Companies Use to Deploy Their Cash and Borrowing Capacity – What Have Been the Total Returns for Each Strategy?

topics covered
Topics Covered
  • Overview of DeMarche Associates
  • Update on General Stock Market Environment
  • Study Background and Definitions
  • Study Results
  • General Conclusions
demarche associates
DeMarche Associates

Products and Services

Defined Benefit Plan/Endowment/Foundation Consulting

  • Tactical Asset Allocation Policy
  • Investment Policy Development
  • Investment Manager Selection
  • Performance Measurement

Investment Management

  • Global Tactical Asset Allocation Fund
  • Specialty Index Funds

Corporate Finance/Investor Relations

  • P/E Valuation and Analysis
  • Dividend Policy Review
  • Treasury Buyback Analysis
slide7

Source: (Top) Standard & Poor’s, FactSet, J.P. Morgan Asset Management.

Price to Earnings is price divided by consensus analyst estimates of earnings per share for the next twelve months. Price to Book is price divided by book value per share. Data

post-1992 include intangibles and are provided by Standard & Poor’s. Price to Cash Flow is price divided by consensus analyst estimates of cash flow per share for the next

twelve months. Price to Sales is calculated as price divided by consensus analyst estimates of sales per share for the next twelve months. PEG Ratio is calculated as NTM P/E

divided by NTM earnings growth. Dividend Yield is calculated as consensus analyst estimates of dividends for the next twelve months divided by price. All consensus analyst

estimates are provided by FactSet. (Bottom left) Q-Ratio based on data from the Federal Reserve, table B.102. *1Q12 is an estimate provided by

J.P. Morgan Asset Management as of 3/31/12. (Bottom right) Standard & Poor’s, Moody’s, FactSet, J.P. Morgan Asset Management.

Data are as of 3/31/12.

slide8

Source: (Top left) Standard & Poor’s, Compustat, FactSet, J.P. Morgan Asset Management. (Top right) Standard & Poor’s, Compustat, FactSet, J.P.

Morgan Asset Management. Earnings estimates are for calendar years and taken at quarter end dates throughout the year. (Bottom) Standard &

Poor’s, FactSet, J.P. Morgan Asset Management. Forward Price to Earnings is price divided by consensus analyst estimates of earnings per share for

the next twelve months.

Data are as of 3/31/12.

the genesis of demarche research
The Genesis ofDeMarche Research

Absence of Academic or Practitioner Studies

Long-term Time Frame

Multi-Cap & Style Differentiated

Multiple Use of Cash Strategies

Segregated by Economic Sector & Industry

uses of cash study definitions and background
Uses of Cash StudyDefinitions and Background

Date of Study: 1990 – 2011 (22 years)

4,000+ Stocks

Subsequent Annualized Returns Analyzed (For 1, 3, and 5 Years)

Minimum Liquidity Requirement

uses of cash study
Uses of Cash Study

METRICS: Distributing to Shareholders

  • Dividend Policy

(Primarily Increases)

  • Stock Buybacks

(Average Annual Repurchases Over Past 5 Years)

uses of cash study1
Uses of Cash Study

METRICS: Reinvesting in the Business

  • 3. Mergers and Acquisitions (M&A)
  • (Cash M&A / Assets Over Past 5 Years)
  • Research and Development (R&D)
  • (Total 5-Year R&D / Total Sales)
  • 5. Capital Expenditures (CapEx)
  • (Total 5-Year CapEx / Assets)
uses of cash study2
Uses of Cash Study

Other Metrics Included

Does Leverage Deter Returns?

What about P/E?

Does Free Cash Flow Matter?

uses of cash study3
Uses of Cash Study

Cap Size Ranges

Large Cap: ≥$20 Billion

$2 Billion ≤ Mid Cap < $20 Billion

$600 Million ≤ Small < $2 Billion

Micro: < $600 Million

14

uses of cash study4
Uses of Cash Study

Number of Observations by Cap Size

Large-Cap 3,400

Mid-Cap 15,500

Small-Cap 16,500

Micro-Cap 36,200

TOTAL 71,600

demarche style factors
DeMarche Style Factors

VALUE TO GROWTH SPECTRUM

Value Stocks

Value Stocks

Factor

Factor

Growth Stocks

Growth Stocks

High

High

Book

Book

-

-

to

to

-

-

Price

Price

Low

Low

High

High

Sales

Sales

-

-

to

to

-

-

Price

Price

Low

Low

High

High

Dividend Yield

Dividend Yield

Low

Low

High

High

Cash Flow Yield

Cash Flow Yield

Low

Low

Low

Low

Dividend Growth

Dividend Growth

High

High

Low

Low

Asset Growth

Asset Growth

High

High

Low

Low

Earnings Growth

Earnings Growth

High

High

Low

Low

Relative Price Strength

Relative Price Strength

High

High

review of total returns by cap size style three year annualized returns 1990 2011
Review of Total Returns by Cap Size & Style Three-Year Annualized Returns (1990-2011)

Total Universe of Stocks 6.68%

Large Cap Stocks 7.61%

Mid Cap Stocks 8.15%

Small Cap Stocks 7.68%

Micro Cap Stocks 5.16%

Value Stocks 7.50%

Growth Stocks 5.80%

slide20

All Stocks

Three-Year Annualized Return Spreads (1990 – 2011)

12%

10%

8%

8.30

6%

6.73

6.17

5.81

4.82

4%

2%

0%

M & A

Buybacks

Dividend Increases

R & D

Cap Ex

* Median 3-Year Return For All Stocks: 6.68%

drill down on buybacks
“Drill-Down” on Buybacks

By Cap Size & Style

By Sector

Effect of Leverage on Buyback Programs

share buyback background
Share Buyback Background

2011 (est) $437 bb 2010 $299 bb 2009 $260 bb

Source: Standard and Poor's

treasury stock buybacks by cap size and style three year annualized returns 1990 2011
Treasury Stock Buybacks by Cap Size and StyleThree-Year Annualized Returns(1990-2011)

Companies Premium (Discount)

By Size with Buybacks All Stocks to Index Returns

All Stocks 6.73 % 6.68 % 0.05 %

treasury stock buybacks by cap size and style three year annualized returns 1990 20111
Treasury Stock Buybacks by Cap Size and StyleThree-Year Annualized Returns(1990-2011)

Companies Cap Size Premium (Discount)

By Size with Buybacks Index to Index Returns

Large CAP 7.98 7.61 0.37

Mid CAP 7.92 8.15 < 0.23 >

Small CAP 7.96 7.68 0.28

Micro CAP 4.88 5.16 < 0.28 >

treasury stock buybacks by cap size and style three year annualized returns 1990 20112
Treasury Stock Buybacks by Cap Size and StyleThree-Year Annualized Returns(1990-2011)

Companies Premium (Discount)

By Size with Buybacks Style Index to Index Returns

Growth 5.96 % 5.80 % 0.16 %

Value 7.56 7.50 0.06

slide26

Stock Buybacks 1990-2011

Three-Year Annualized Return (10 Economic Sectors)

Premium Discount

WithtoBuybacks Sector Sector Returns

10.08% 10.25%

9.90% 10.12%

8.90% 9.94%

8.11% 7.11%

8.04% 7.88%

7.59% 7.25%

6.90% 4.72%

6.41% 5.91%

4.53% 4.20%

3.12% 2.23%

6.73% - 3 Year Returns

Financials

Utilities

Energy

Telecommunication Services

Consumer Staples

Industrials

Health Care

Materials

Consumer Discretionary

Information Technology

All Stocks with Repurchases

* Median 3-Year Return For All Stocks: 6.68%

slide27

Largest Buybacks

* Median 3-Year Return For All Stocks: 6.68%

drill down on dividends
“Drill-Down” on Dividends

By Cap Size & Investment Style

By Sector

Stratify by P/E

Summary of Various Dividend Strategies

dividend background
Dividend Background

Initiations Terminations

& Increases & Decreases

2011 1,953 101

2010 1,729 145

2009 1,191 804

Source: Standard and Poor's

dividend increases by cap size and style three year annualized returns 1990 2011
Dividend Increases by Cap Size and StyleThree-Year Annualized Returns(1990-2011)

Increasing Stable Decreasing

Dividends Dividends Dividends

Median 8.30% 6.89% 7.64%

Returns

Median 3-Year Return for All Stocks – 6.68%

dividend increases by cap size and style three year annualized returns 1990 20111
Dividend Increases by Cap Size and StyleThree-Year Annualized Returns(1990-2011)

Companies with Premium (Discount)

By Size Dividend Increases All Stocks to Index Returns

All Stocks 8.30 % 6.68 % 1.62 %

dividend increases by cap size and style three year annualized returns 1990 20112
Dividend Increases by Cap Size and StyleThree-Year Annualized Returns(1990-2011)

Companies with Cap Size Premium (Discount)

By Size Dividend Increases Index to Index Returns

Large CAP 8.38 % 7.61 % 1.24 %

Mid CAP 8.858.15 0.70

Small CAP 9.12 7.68 1.79

Micro CAP 7.15 5.16 1.99

dividend increases by cap size and style three year annualized returns 1990 20113
Dividend Increases by Cap Size and StyleThree-Year Annualized Returns(1990-2011)

Companies with Cap Size Premium (Discount)

By Size Dividend Increases Index to Index Returns

Growth 8.55 % 5.80 % 2.75 %

Value 9.03 7.501.53

slide34

Level of Dividend Increases

Three-Year Annualized Returns (1990 – 2011)

12%

10%

8%

6%

4%

2%

8.47%

8.25%

8.31%

0%

> 25%

11 – 25%

0 – 10%

* Median 3-Year Return For All Stocks: 6.68%

slide35

Dividend Increases (By Economic Sector) 1990-2011

Three-Year Annualized Return (10 Sectors)

With Premium (Discount)

Dividend to

Increases Sector Sector Returns

12.07% 9.94%

10.74% 10.25%

10.22% 10.12%

9.67% 4.72%

8.82% 7.11%

8.62% 7.25%

8.20% 7.88%

7.30% 5.91%

5.71% 2.23%

5.55% 4.20%

8.30%

Energy

Financials

Utilities

Health Care

Telecommunication Services

Industrials

Consumer Staples

Materials

Information Technology

Consumer Discretionary

All Stocks (w/Dividend Increases)

* Median 3-Year Return For All Stocks: 6.68%

35

free cash flow
Free Cash Flow

Does Free Cash Flow

Make a Difference?

conclusions
Conclusions

In General (When Ranking 4,000+ Stocks)

Increasing dividends is the best use of cash

Maintaining dividends is the second best use of cash

Buybacks are the third best use of cash

M&A in number four spot

CapEx and R/D rank in the bottom

conclusions1
Conclusions

Returns depend upon Company’s “DNA”

Mid-Cap: Best Performer by size

Value: Best Performer by style

Dividend increases had largest positive effect on Growth Stocks and Micro-Cap Stocks

Buybacks had largest positive effect on Growth Stocks and Large-Cap Stocks

conclusions2
Conclusions

Higher Free Cash Flow equates to better total returns

Higher Leverage does not appear to negatively impact returns

We are not advocating one use of cash strategy over any other - Need to balance between reinvesting in the business and rewarding shareholders