Earnings and Valuation Distortions, Part 2

Business_Finance_14080Depreciation is a non-cash expense (but still a charge to earnings) that is a proxy for capital assets charges. On the sources and uses of cash schedule, depreciation is an add to arrive at free cash flow, or roughly, cash flow from operations less capital spending.

The problem is that a decline in depreciation expense, while providing a momentary short-term boost to earnings, is a sign of lack of vitality and business expansion. In reviewing companies, I look for declining depreciation expense as a signal. Even if store openings slow, CAPEX should be spent on remodels and reimaging.

Buffalo Wild Wings (BWLD) faced questions last year as it missed its depreciation target as it was building a lot of new stores. With its comparable sales momentum problems the last two quarters duly noted, it was doing what an underpenetrated US national company should do: build new units.

About John Gordon

John A. Gordon is a restaurant sector expert, who focuses on restaurant management, operations, and related earnings and economics matters. He consults with attorneys and other professionals who need to know about restaurants, via expert research, expert consultant and expert witness roles. Working for both plaintiffs and defendants, he has experience with both state and federal actions. He is an expert on chain restaurant business conditions and publicly traded companies. Gordon has extensive, career-long executive restaurant operations, corporate staff, financial management and management consulting experience, and is familiar with virtually all management issues and business disciplines. He has completed PSLRA securities, financial projections, due diligence reviews, earnings and damages, franchisee/franchisor matters, wage and hour and menu analysis expert work. Expert witness and article contributor for www.ForensisGroup.com

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