Companies With No Debt: Are They a Good Investment?

Today we look at a group of companies that have no debt and large cash balances. At first blush you would say that this is a good thing. What’s there not to like about cash? Yet when we dig deeper we find that this can be a double-edged sword.

Some companies rise to the top of their industry sectors while others fall by the wayside. Do you remember General Foods, RCA, Eastern Airlines, Lionel Corporation, FW Woolworth and Schwinn Bicycle Corporation? What happened? Then we saw companies like General Mills, American Airlines and Walmart become leaders.

The answer to this puzzle lies in two key management tenets – growth and innovation. Some companies like Amazon powered its way to the top of Internet marketing. Other companies like Apple were able to pick themselves off the floor though creative innovation. What is interesting is that both Amazon and Apple have huge cash balances.

One key question that investors often ask is: Should I buy companies with no debt and big cash balances? Most would say yes. Some mutual funds pride themselves in investing in debt free companies with loads of cash. Most often these companies have weathered several business cycles ups and downs and survived then became bigger and stronger.

However being debt free and cash heavy is no guarantee that the stock will go up. We’ve chosen several companies with no debt and lots of cash, some have performed well and others have suffered losses. Here are a few examples for 2012 (CNBC.com):

· Topping the list is Apple (AAPL) Apple has $28.5 billion in cash and investments. Assets total $150.9 billion. The ratio of cash to assets in 18.9% and the 1 year stock performance is up 62%
· Intuitive Surgical (ISRG) has $917 million cash and investments. Assets total $3.33 billion. The ratio of cash to assets is 29.13% and the 1 year performance is up 52%
· Mastercard (MA) has $5.18 billion in cash and investments. Assets total $11 billion. The ratio of cast to assets is 46.5% and the 1 year performance is up 42%.
· Red Hat (RHT) has cash and investments of $819 million. Assets total $2.49 billion. The ratio of cash to assets is 33% and the 1 year performance is up 25%
· Amazon (AMZN) has cash and investments of $5.7 million. The assets total $20 billion. The ratio of cash to assets is 28% and the 1 year performance is up 3%.
· Cognizant Teach (CTSH) has cash and investments of $2.49 billion. Assets total $5.67 billion. The ratio of cash to assets is 44% and the 1 year performance is down 18%.

Notice the wide range in performance between Apple – up 62% and Amazon up only 3%. Notice also that the one loser Cognizant- down 18% has a 44% ratio of cash to assets.

What this shows is that having cash alone is no guarantee of a higher stock price. As an investor you must go in depth into the company, the sector, the management and forward guidance concerning the company’s growth prospects.

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