When cash registers were the only way to pay at the retail counter, National Cash Register was the dominant player. Now it’s the NCR Corp. (NCR.N) and more of a technology company, since most cash registers are computerized to accept credit and debit cards. However, recent challenges are hitting the company’s own cash registers.
NCR provides customer solutions for clients in industries ranging from gaming to healthcare and financial companies. While NCR did a great job of transitioning its business to stay relevant, the last year has been challenging. The company’s pension program is weighing on profits, and weak cash flows indicate poor earnings quality. The poor score of 3 out of a possible 100 on the StarMine Earnings Quality (EQ) model further strengthens the case that earnings may not be coming from sustainable sources.
Cash flow issues
As seen in the chart below, NCR has recorded negative free cash flow in three of the last four quarters despite positive net income. In the last quarter ending June 2013, the company reported net income of $86 million, but free cash flow lagged at -$77 million. When earnings are not backed by strong cash flows, they tend to be less sustainable in the long run.
Source: Datastream Pro/StarMine
Pension underfunding
NCR faces another problem. Its pension obligations are underfunded. In the last quarter, pension expenses accounted for 6% of total sales. Further, the company is expecting to pay $100 million into its underfunded pension account by the end of 2014. That is likely to eat into cash flows for 2013 and 2014.
The company is transitioning into Phase 3 of its pension strategy with the aim to improve free cash flows by 2015, but in the meantime the company expects to spend $400 million on early retirement plans and transition current pension participants off the plan through lump sum payments.
As seen in the chart below, NCR continues to ask investors to ignore certain expenses, (pension expenses and acquisition costs) and reports pro forma earnings that have consistently exceeded GAAP earnings. The chart shows that although the company has consistently beaten analyst estimates, GAAP earnings have been below estimates. While acquisitions and onetime expenses may be justified, having them in every quarter makes them less likely to be exceptional items. Studies have shown that in the long run, GAAP earnings win.
Source: Datastream Pro/StarMine
Checking insider activity
StarMine also looks at insider holdings and insider trades to determine the overall sentiment of insiders towards their company in the StarMine Insider Filings Model. NCR scores a weak 10 on the Insider model, indicating a high level of insider selling activity and a low level of buying activity by insiders. Further the company has seen its debt level increase from almost nothing two years ago to over $2 billion as it borrows to fund various acquisitions. That increased leverage, negative free cash flows and the underfunded pension obligations could weigh on earnings for the near future. While the company was successful in transitioning from old fashioned cash registers, it has not yet managed to fully transition away from old fashioned pension programs.
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