Archive for Sunday, July 15, 2001

Motley Fool

July 15, 2001


Q: What's a company's "payout ratio"? -- W.I., Brevard, N.C.

A: It's the percentage of net income the firm pays out to shareholders as a dividend. If Farm Dogs Inc. (ticker: BINGO) pays $1 per year in dividends and earns $4 per share, its payout ratio is 25 percent.

When a firm returns much of its earnings to shareholders, then little is being reinvested in operations. That's not necessarily bad, though. Sometimes reinvested earnings would return less than shareholders could get investing the payout on their own.

Q: My parents have transferred shares of stock to me at various times in the past. How do I determine my gain or loss when I sell them? -- Mary Ann Woytus, via e-mail

A: Your gain (or loss) on the sale will depend on the price at which you sell the stock and your cost basis in the stock. To determine your cost basis, you need to know at least two things: your parents' cost basis for the stock and the fair market value (FMV) of the stock at the date of the gift.

If the FMV of the stock is more than your parents' basis at the time of the gift, then your basis is the same as your parents' basis. If the FMV is less than your parents' basis, then things get more complicated. Your basis is "probably" the FMV on the day of the gift. It depends on the price of the shares when they are sold.

There's more to this issue. You might want to read IRS Publications 550 and 448. The IRS Web site at is a handy place where you can download and print publications and forms.


Short-Term Savings

Poor, neglected short-term savings. Many people never attend to this topic. They may cruise for a while, but after life hits them in the face with a dead fish, they often end up in bankruptcy. Don't let that happen to you.

You need short-term savings to protect you against financial emergencies and to pay for predictable expenses, such as vacations, new cars and weddings. You've got two choices: 1) Save up and earn interest, or 2) borrow the money (often via a credit card) and pay interest (at a much higher rate).

This sure seems like a no-brainer to us.

How much money do you need in short-term emergency savings? It depends on your situation. Generally, aim to have at least three to six months of living expenses in an emergency fund. If you're a software programmer who's footloose and fancy free, a couple of months' worth may be enough. If you're a performance artist who's the sole supporter of six children, your aged parents and a llama, you'll probably want to aim for a year's worth of expenses in ready cash.

Beyond your emergency fund, any funds you'll need within three to five years should not be at risk in the stock market. That's right -- stocks can be terrific for long investment periods, but in the short run, anything can happen. You don't want the market to plunge three months before you have to make a massive tuition payment.

Short-term savings belong in instruments such as money market accounts, certificates of deposit (CDs), short- to mid-term government and corporate bonds, and bond mutual funds. Your return will vary, of course, but right now money market accounts are paying 3 percent to 5 percent. CD rates depend on how long you're willing to tie up your money, but short-term CDs start out about the same as money market rates and go up in small increments as the term gets longer. Corporate bonds tend to pay more than CDs or Treasury bonds, depending on the risk of the bond.

Learn more about your short-term savings options (and find some great deals) at and



My grandfather bought some shares of Brown-Forman (one of the nation's largest wine and spirits enterprises) during the Depression. He said, "When times are bad, people drink." Of course, they also drink when times are good -- it's a win-win situation. I bought 10 shares in 1975 for $10 each. I never bought any more shares, but started reinvesting my dividends into additional shares about 13 years ago. Two years ago I gave 10 shares to each of my eight nieces and nephews and I still have 109 shares. Now several of them are snapping up more shares of their own. I love this stock. -- Mary Ann Brodersen, St. Petersburg, Fla.

The Fool Responds: Your family has exhibited some smart thinking. Recession-resistant industries can make for solid investments. (Industries such as pharmaceuticals and food can be even more resilient.) Holding on for the long haul was also smart, as was having your dividends reinvested.

Foolish Trivia

I was founded 100 years ago by a King. Within 25 years, he noted that he'd seen my flagship product in use all over the world, from Scandinavia to the Sahara. Today my products are divided into four divisions: grooming, portable power, oral care and household appliances. Three of these divisions account for 80 percent of my sales and 90 percent of my profits. Some of my brands include: Mach3, Satin Care, Duracell, Braun and Oral-B. I recently sold my stationery products business to Newell Rubbermaid. I'm based in Boston, and my ticker symbol sounds like an exclamation. Who am I?

Last Week's Trivia Answer: I was born in 1969 in San Francisco, and today I rake in more than $13 billion annually. I operate more than 3,800 stores in North America, Europe and Japan. My three main brands are named for a space, an aged armed force and a fruity government. My baby was born in 1990. My employees number more than 165,000, and some say I helped renew interest in swing dancing. My stock has advanced more than 600 percent over the past decade. Who am I? (Answer: Gap)


McEconomic Profits

McDonald's glory days may be behind it, but the sun isn't setting on the golden arches. From an investor's standpoint, the world's largest fast-food franchise does many things well. It has created a franchise and brand name that no competitor will likely be able to duplicate. This means it can be expected to generate healthy returns much longer than the average company. Those returns shrink as the company expands, of course, but McDonald's continues to earn economic profits. (Economic profits incorporate all of a company's costs, not just those that can be easily measured and appear in financial statements.)

In addition, McDonald's generates gobs of cash and has high operating margins, much higher than the typical fast-food enterprise. The company is expanding in new directions, with diverse chains such as Boston Market, Chipotle Mexican Grill and Donatos Pizza. Its system-wide sales topped $40 billion in 2000.

The company has plenty of challenges, though. It has recently struggled with reinventing its menu, international expansion is always tricky, and the strength of the U.S. dollar has weakened earnings abroad. Mad cow disease has also put pressure on earnings. But McDonald's is a steady business. Investors know how it makes money, both today and 10 years from now. This company is one to keep a close eye on.

Commenting has been disabled for this item.