Apple, Intuit, McDonald’s: Why Sound Businesses With Negative Working Capital Are Great For Investors
Although Working Capital – which refers to the funds a business uses in its day-to-day operations – is seen as a relatively mundane metric, we think it’s quite useful to identify quality businesses. Specifically, financially sound companies that have low or negative Net Working Capital requirements indicate that they have strong bargaining power with suppliers, can quickly collect cash or advances from customers, and have sound management of their inventory – all very favorable attributes for a business. In our indicative theme Negative Working Capital Companies, we have picked a few stocks including Intuit (NASDAQ: INTU), McDonald’s (NYSE: MCD), Paychex (NASDAQ: PAYX), and Apple (NASDAQ: AAPL) that meet this criterion. This theme has outperformed, rising by about 60% since the end of 2017, compared to a return of about 28% for the S&P 500.
We have picked stocks that have had consistently negative Net Working Capital – which we define as the sum of reported Accounts Receivable and Inventory minus Accounts Payable – over the last three years. We have also excluded cyclical, capital intensive businesses by only picking companies that have had a Return On Invested Capital of over 10% each year over the last three years. (note that this criterion removes e-commerce and cloud behemoth Amazon which has negative working capital and a low ROIC). Below, we provide an overview of some of the key companies that are part of the theme and how they’ve performed in recent years.
McDonald’s stock has gained about 10% this year. The company’s revenues have declined from around $23 billion in 2017 to about $21 billion in 2019, as it focuses on reducing its number of owned and operated restaurants to improve profitability. Operating Margins have increased from 41.6% to 43.4% over the same period.
Apple stock has rallied by 54% this year, driven by strong demand for computing products through Covid-19, and the pending launch of the 5G iPhone. The stock is up by 200% since 2017. Apple’s Revenues have risen from around $229 billion in 2017 to around $260 billion in 2019, driven by growth in the Services and wearables products, while Operating Margins declined from 26.8% to 24.6% in the same period, due to higher component costs and slightly higher operating expenses.
Intuit, an innovator in the accounting software space has seen its stock rally by over 23% year-to-date as investors increasingly bet on higher-growth, asset-light companies. The stock is up by over 120% since 2017. The company has grown revenues from $5.2 billion to $6.8 billion between 2017 and 2019, with its operating margins remaining roughly flat at about 27%.
Paychex, a provider of human resources, payroll, and other services for small and medium businesses, has declined by about 11% year-to-date due to disruptions related to Covid-19, with the stock up by about 19% since the end of 2017. The company has grown revenues from $3.2 billion to $3.8 billion between FY’18 and FY’20, with its operating margins declining from around 39.8% to about 36.3%.
What if you’re looking for a more balanced portfolio instead? Here’s a top-quality portfolio to outperform the market, with over 100% return since 2016, versus 55% for the S&P 500, Comprised of companies with strong revenue growth, healthy profits, lots of cash, and low risk. It has outperformed the broader market year after year, consistently.
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