Industry: business services
RR Donnelley is an advertising and customer communications company that produces magazines, catalogs, retail inserts, directories, statements, packaging, and direct mail for its clients.
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A company creates wealth for its long-term shareholders in 2 main ways - through dividend payments and through the accumulation of retained earnings. This graph shows the accumulation of per-share equity of long-term shareholders (green bars), which consists of the retained earnings plus all capital invested in the company, and the cumulative dividends the company has paid over time per share of its stock (blue bars).
In the words of Warren Buffett: "We're looking for... businesses earning good returns on equity while employing little or no debt."
Return on equity is a key metric of financial performance, indicating a company's ability to generate earnings using shareholder capital. Over time, ROE is one of the major determinants of the rate at which a company creates shareholder wealth. The average ROE for large U.S. companies is 12%, and many investors use it as a threshold for attractive investments.
Companies can boost ROE by increasing leverage, which reduces the safety of the investment. Therefore, it is useful to look at the return on assets (ROA), which measures a company's earning power regardless of its capital structure. A widening gap between ROE and ROA may be a warning sign that should be thoroughly investigated.
Earnings per share is a popular metric used to value a company (using P/E ratio); growth in EPS is often used to judge company growth potential. However, many investors believe that EPS is an inferior metric to ROE, because it ignores the amount of capital the company used to generate earnings.
Free cash flow shows how much cash a company generates from operations, above and beyond what is required to maintain or expand its productive assets. This cash can be returned to investors, or spent by management on growing the company or paying back its debts.
Balance sheets of many companies contain intangible assets such as goodwill, trademarks, patents, etc. Many investors consider intangibles more difficult to value than physical assets. If intangible assets had been valued incorrectly, they must be impaired, resulting in a loss charged against shareholder equity. This chart demonstrates the potential loss to shareholder equity from such impairments.
Companies often use debt financing to increase their return on equity. However, as the amount of debt financing increases relative to the amount of equity financing, the company becomes more sensitive to down turns and other negative events. As a result, many investors use the ratio of debt to equity as a measure of a company's financial risk, and avoid companies that have this ratio above 1.
This chart shows shareholder equity as a percentage of total assets, allowing investors to judge the overall leverage. Companies with a higher proportion of equity can be viewed as safer investments. This metric is particularly important for highly leveraged institutions, such as banks, where it must be at least 4% according to government regulations.
The ratio of current assets to current liabilities is known as the current ratio. This metric is a quick measure of the company's ability to pay its short-term obligations. A current ratio below 1 is a warning sign that should be investigated, especially for companies that cannot count on adequate cash flow from operations.
This chart shows the cumulative dilution of investor ownership in a company over time. Dilution reduces an investor's participation in the future earnings. Dilution increases when a company issues new shares, and decreases when a company buys its shares back. Many investors avoid companies with large chronic dilution.
analysis provides insight into factors affecting the Return On Equity of a company.
The DuPont equation decomposes ROE as follows:
ROE = (Net margin) * (Asset turnover) * (Asset to equity ratio)
Net margin indicates operating efficiency, Asset turnover measures the total asset use efficiency, and the Asset to equity ratio is a measure of financial leverage.
The dividend payout ratio tells investors what percentage of earnings a company returns to shareholders, and what percentage it retains and reinvests. This ratio represents a major capital allocation decision by the company, and can be used to judge management rationality. Rational management should pay out all earnings that cannot be productively reinvested. Therefore, a low dividend payout ratio for a profitable company with a low growth potential may be a warning sign.
Many investors use the P/B ratio as a quick way of judging company valuation. Value investors - followers of Graham and Dodd - specifically seek out companies with low P/B ratios. However, investors should be careful not to make investment decisions on this metric alone, without considering a company's earning and growth potential, since a low P/B ratio can be a sign of a bleak future for the business.
P/E ratio is a popular way of making a quick judgment of a company valuation. Value investors - followers of Graham and Dodd - often seek solid companies with low P/E ratios as investment opportunities. However, P/E ratio represents an oversimplified approach to business valuation, and can often lead to incorrect investment decisions.
On February 27, 2004, the Company acquired all of the outstanding shares of Moore Wallace in exchange for consideration of 0.63 shares of the Company's common stock for each outstanding common share of Moore Wallace. Management believes the Combination will enhance the Company's combined competitive position within the industry by bringing together two industry leaders with highly complementary products and services to create the world's premier full-service global print provider and the largest printing company in North America. Management also believes the Combination will enable the Company to improve profitability, achieve significant cost synergies, leverage complementary products and services and augment cross-selling opportunities across a more diverse platform. The aggregate consideration to the Moore Wallace shareholders was comprised of 102.1 million shares of common stock of the Company with a fair value of $2,804.9 million. The fair value of the Company's shares was based upon the actual number of shares issued to the Moore Wallace shareholders using the average closing trading price of the Company's common stock on the New York Stock Exchange during a five-day trading period beginning two trading days prior to the announcement of the combination agreement on November 8, 2003. The total purchase price of $2,756.4 million, net of cash acquired of $85.4 million, also includes $20.0 million for the conversion of employee stock options and restricted shares and direct acquisition costs through March 31, 2004 of $16.9 million.
On June 20, 2005, the Company acquired The Astron Group, a leader in the document-based business process outsourcing market (DBPO), providing transaction print and mail services, data and print management, document production and marketing support services primarily in the United Kingdom. Astron was acquired to extend the Company's services in the DBPO sector. Astron was acquired for approximately $954.5 million, net of $10.2 million of cash acquired, including $8.5 million in acquisition costs and the assumption of $449.4 million of Astron's debt. On the acquisition date, $434.5 million of the assumed debt was paid off.
On December 27, 2007, the Company acquired Cardinal Brands, for a purchase price of approximately $123 million. The Company financed this acquisition through issuances of commercial paper and with existing cash on hand. On May 16, 2007, the Company acquired Von Hoffmann, for a purchase price of approximately $413 million. The Company financed this acquisition through issuances of commercial paper and with existing cash on hand. On January 24, 2007, the Company acquired Perry Judd's, for a purchase price of approximately $182 million. The Company financed this acquisition with the proceeds from the issuance of the notes described previously, through issuances of commercial paper and with existing cash on hand.
2007 restructuring and impairment charges included a non-cash pre-tax charge of $316.1 million reflecting the write-off of the Moore Wallace, OfficeTiger and other trade names, and a $436.1 million non-cash charge for impairment of goodwill related to the business process outsourcing reporting unit.
During the fourth quarter, the Company recorded $1,125.4 million in non-cash, pre-tax charges for the impairment of goodwill and intangible assets. These charges reflect actual and expected declines in net sales and cash flows, primarily as a result of the global economic crisis and recessionary environment. In its International segment, the Company recorded $249.4 million, $152.0 million and $22.3 million of goodwill impairment at its business process outsourcing, Canada and Global Turnkey Solutions reporting units, respectively. In addition, the Company recorded a $325.3 million impairment charge of customer relationships at its business process outsourcing reporting unit. In its U.S. Print and Related Services segment, the Company recorded $297.8 million and $78.6 million of goodwill impairment at its forms and labels and office products reporting units, respectively.
As part of the share repurchase program, on May 5, 2011 the Company entered into an accelerated share repurchase agreement (ASR) with an investment bank under which the Company agreed to repurchase $500 million of its common stock. On May 10, 2011 the Company paid the $500 million purchase price and received an initial delivery of 19.9 million shares from the investment bank subject to a 20%, or $100 million, holdback.
As a result of the 2012 annual goodwill impairment test, the Company recognized a total non-cash charge of $848.4 million for the impairment of goodwill in the magazines, catalogs and retail inserts, books and directories and Europe reporting units. The goodwill impairment charge resulted from reductions in the estimated fair value of these reporting units, based on lower expectations for future revenue, profitability and cash flows as compared to expectations as of the last annual goodwill impairment test. The lower expectations for magazines, catalogs and retail inserts were due to price pressures driven by excess capacity in the industry and erosion of ad pages and circulation of magazines. The lower expectations for books and directories were due to lower demand for educational books as a result of state and local budget constraints, the impact of electronic substitution on consumer book and directory volumes and price pressure driven by excess capacity in the industry. The lower expectations for Europe were due to lower volumes from existing customers and price pressures driven by excess capacity in the industry. As of December 31, 2012, there was $18.1 million of goodwill remaining in the magazines, catalogs and retail inserts reporting unit. The books and directories and Europe reporting units had no remaining goodwill as of December 31, 2012.
On January 31, 2014, the Company acquired Consolidated Graphics, Inc., a provider of digital and commercial printing, fulfillment services, print management and proprietary Internet-based technology solutions, with operations in North America, Europe and Asia. The purchase price for Consolidated Graphics was $359.9 million in cash and 16.0 million shares of RR Donnelley common stock, or a total transaction value of $660.6 million based on the Company's closing share price on January 30, 2014, plus the assumption of Consolidated Graphics' net debt. Immediately following the acquisition, the Company repaid the debt assumed. Consolidated Graphics' operations will be included in the Variable Print segment. On January 6, 2014, the Company announced that it had entered into a definitive agreement to acquire substantially all of the North American operations of Esselte Corporation. The purchase price includes a combination of cash and up to 1.0 million shares of RR Donnelley common stock for a total transaction value of approximately $96.5 million. Esselte is a developer and manufacturer of nationally branded and private label office and stationery products. The completion of the transaction is subject to customary closing conditions. Esselte's operations will be included in the Variable Print segment.
On October 1, 2016, the Company completed the previously announced separation of its financial communications and data services business (Donnelley Financial Solutions, Inc.) and the publishing and retail-centric print services and office products business (LSC Communications, Inc.) into two separate publicly-traded companies. The Company completed the tax free distribution of approximately 26.2 million shares, or 80.75%, of the outstanding common stock of Donnelley Financial and 26.2 million shares, or 80.75%, of the outstanding common stock of LSC, to the Companys stockholders. The Distribution was made to the Companys stockholders of record as of the close of business on September 23, 2016, who received one share of Donnelley Financial common stock and one share of LSC common stock for every eight shares of RR Donnelley common stock held as of the record date. As a result of the Distribution, Donnelley Financial and LSC are now independent public companies trading under the symbols DFIN and LKSD, respectively, on the New York Stock Exchange. Immediately following the Distribution, the Company held 6.2 million shares of Donnelley Financial Solutions common stock and 6.2 million shares of LSC common stock. The Company will account for these investments as available-for-sale equity securities. The value of the Companys investment in Donnelley Financial and LSC was approximately $350.1 million, calculated using the mid-point stock price for each companys common stock on October 3, 2016.