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Balance Sheets 101: Who Made the Grade

Best Buy (BBY - Get Report) is the premier retailer in the highly competitive consumer electronic industry segment. As of its most recent quarter (ended May 31, 2008), Best Buy sported nearly $1.5 billion in cash and short-term investments. The company held inventory of $5 billion versus accounts payable of $6 billion, most of which was assumed to purchase the inventory.

Best Buy's total debt (long-term plus short-term debt) was about $1.15 billion. That is down from higher levels just a few quarters ago. Best Buy continues to add new stores (they just did not far from my house in New Jersey) - primarily using current operating cash.

Now let's compare Best Buy's balance sheet to that of one of the premier "big box" retailers in the country, Macy's (M - Get Report).

Macy's (M - Get Report) has expanded through the acquisition of other retailers, such as Federated Department stores and the opening of new stores. The company's balance sheet is almost the complete opposite to that of Best Buy. As of the quarter that ended May 3, 2008, Macy's total debt was nearly $9.8 billion. That said, Macy's does deserve some credit for paring down its debt by about $1 billion over the last 12 months. However, here is one of my pet peeves that Macy's violates: The company is buying back stock rather than repaying it debt at a faster pace. Inventories stood at $5.5 billion, while payables were $4.6 billion. Cash and short-term investments were negligible in comparison, at under $400 million.

One final glaring item on the Macy's balance sheet is the enormous amount of goodwill it has recorded -- about $9.1 billion. Best Buy, on the other hand, had just under $1.1 billion. Goodwill is the excess of purchase price over book value that a company must assume when it makes an acquisition. The amortization of that goodwill is a charge to earnings thus impacting EPS. We are currently in the midst of a difficult economic and retail environment. A stronger balance sheet will protect a company more than a weaker one under these conditions. While shares of Best Buy have understandably declined in the past year, shares of Macy's have performed much worse. Part of that has to do with the large amount of debt that Macy's carries and has to pay debt on. Here is a comparison of the performance of both companies' stocks over the past year:

Click here for larger image.
Balance Sheet Grades: Best Buy: B+ (with room for improvement), Macy's: D.

Homework Time

The next time you're looking at company balance sheets, seek out financial strength by identifying:

  • Low debt.
  • The paying down of debt and the operational ability to pay down debt.
  • Manageable levels of inventory versus receivables and cash.
  • At the time of publication, Rothbort was long FCX, although positions can change at any time.

    Scott Rothbort has over 20 years of experience in the financial services industry. In 2002, Rothbort founded LakeView Asset Management, LLC, a registered investment advisor based in Millburn, N.J., which offers customized individually managed separate accounts, including proprietary long/short strategies to its high net worth clientele.

    Immediately prior to that, Rothbort worked at Merrill Lynch for 10 years, where he was instrumental in building the global equity derivative business and managed the global equity swap business from its inception. Rothbort previously held international assignments in Tokyo, Hong Kong and London while working for Morgan Stanley and County NatWest Securities.

    Rothbort holds an MBA in finance and international business from the Stern School of Business of New York University and a BS in economics and accounting from the Wharton School of Business of the University of Pennsylvania. He is a Term Professor of Finance and the Chief Market Strategist for the Stillman School of Business of Seton Hall University.

    For more information about Scott Rothbort and LakeView Asset Management, LLC, visit the company's Web site at www.lakeviewasset.com. Scott appreciates your feedback; click here to send him an email.
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