But McGee of Tyco dismisses the charges. "If we do everything according to the rules and we disclose everything in a 10-K, then how does that mislead investors?" he asks. "We are a company that is second to none in the level of disclosure we give."
Do Adjust Your Sets
In fact, some critics charge that Tyco presents too much information in its financial statements, making it difficult for investors to get a true sense of the company's financial well-being. Then again, the 10-ks and annual reports of many large conglomerates tend to be filled with pages and pages of financial footnotes and esoteric explanations.
So how can investors accurately assess Tyco's performance? In an interview with CFO in the fall of 2000, CFO Swartz said internal growth rates and swelling free cash flow were signs that the company's acquisition strategy was paying off. "It's the organic growth that is the report card on the health of the business," he said.
Using that gauge, Tyco may not be all that well. To be sure, the company's per-share earnings (EPS) have increased substantially -- and consistently -- over the last thirteen quarters. During the fourth quarter of 1999, Tyco generated a trailing twelve month EPS of 64 cents. A year later, that number jumped to $2.05. In Q4 of fiscal 2001, the company generated an EPS of $2.60. (Meyer uses trailing twelve-month numbers to even out seasonal factors that might affect financial performance.)
The jump in EPS is good news for shareholders. But Meyer insists that the company's solid growth in income has not been supported by an equally strong bump up in free cash flow. In fact, he asserts that Tyco's free cash flow per share has started to decline.
By his reckoning, Tyco generated 82 cents of free cash flow per share in the fourth quarter of 1999. But he estimates that the company's free cash flow per share in the first quarter of 2002 fell to 69 cents -- well below the company's 1999 levels. "If you do a true free cash flow analysis," asserts Meyer, "it becomes quite apparent that they are running out of cash."
At the very least, Tyco appears to cleave to an unusually loose definition of free cash flow. In fiscal 2001, for example, Tyco management reported the company generated $4.75 billion in free cash. But that figure excluded more than $2 billion in costs incurred by Tycom, the company's telecom business, to build an extensive underwater global communications network.
Meyer doesn't buy the bookkeeping. "Excluding Tycom expenses from the capital expenditures line in the cash flow statement is unheard of," he insists. "Tycom is a subsidiary like any other that spends money on capital items." When those costs are included as capital expenditures, Meyer claims, Tyco's free cash flow drops to $2.5 billion. Throw in acquisition-related expenditures, and, Meyer says, Tyco really only produced $1.6 billion in free cash flow last year -- a far cry from the company's $4.7 billion figure.
Of course, as a short-seller, Meyer might have an agenda in bashing Tyco. But Meyer is not the only Tyco watcher who questions the company's free cash flow numbers. "You definitely have to look at those acquisition-related costs," concedes Cindy Werneth, who covers Tyco for Standard & Poor's. Notes Werneth: "Since those costs are not included in Tyco's free cash flow number, you just have to understand what you are looking at, and make your own adjustments."
Tapping, Not Basking
If Tyco is suffering a cash crunch, you'd never know it from listening to company management. During a recent conference all, CEO Dennis Kozlowski told analysts that Tyco has "no liquidity problems." In the same meeting, CFO Swartz added that the company is sitting on a cash cushion of about $1.5 billion.
Nevertheless, earlier this month, Tyco and its finance unit, CIT, borrowed $14.4 billion through backup bank credit lines. The reason: Company management reportedly worried it would not be able to raise funds in the commercial paper market. The $14.4 billion came on top of $1.5 billion Tyco borrowed earlier to help the company execute its breakup plan. "When you have to tap your backup bank lines," comments Whall, "that's not exactly a sign of a company that's basking in excess cash."
Tyco's cash position probably won't get better any time soon, either. Debt at the company's industrial businesses nearly doubled to $21.6 billion during fiscal 2001. What's more, the soon-to-be dismantled conglomerate has some $12 billion in debt instruments coming due in 2003. Some analysts say management at the company may have a hard time paying down the debt. "The company's immediate cash needs have been taken care of, but next year it faces some substantial maturities," says Carol Levenson, director of research at Gimme Credit, a publisher of independent corporate bond research.
To raise cash, Levenson thinks, Tyco will have to sell some assets and push through the proposed spin-offs. Just how much capital Tyco can raise from deconstructing itself remains to be seen. Management recently acknowledged that it may have to pare down its spin-off plans due to unfavorable market conditions. And another worry: in February, Standard & Poor's dropped the company's senior unsecured debt rating three notches, to BBB from A. "We got concerned that they were not able to renew their bank lines and had to draw them down," explains S&Ps Werneth. "But that could just be a short-term phenomenon, given what's happening in the markets with Enron, etc. The company has some time to sort this all out."
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