The allure of investing in a diversified company is reasonably justified. These mature companies tend to grow faster than GDP, throw off lots of cash, and have survived long enough for investors to feel comfortable that they won't disappear during a recession. The challenge is that these companies plow a fair amount of capital back into their businesses, making it difficult to gauge the real success of these firms. The result is that while some companies get proper respect, a number of companies tend to trade at a discount to the sum of their parts.

While many accept the logic for the discount as an academic fact, a far more important lesson for investors lies in what the companies are actually doing with marginal capital and what return they earn on it. We can perform this analysis on firms in any industry, but the diversified space makes a poignant starting point, since these companies generally have strong cash flows, solid balance sheets, and heavy capital investing programs.

Plowing Cash Back into the Business

Instead of opting for a traditional earnings-based plowback calculation, we instead turned to the cash flow statements to get a sense of how the companies actually invested capital. Many firms use acquisitions in lieu of capital expenditures or research and development, so it makes sense to combine all of these items since they represent dollars not returned to shareholders. These categories tend to be fairly lumpy from year to year, so in our analysis we added investment across five years to have a fairly representative picture for each company. We divide this number by sales (for the last five years) to normalize the metric.

The median plowback rate within our diversified universe is 16% of sales. Roper Industries (ROP) and Danaher (DHR) lead the pack. Put simply, these companies have invested heavily for growth and made big bets on the future, with both of these companies setting aside over 20% of sales to acquire new businesses and grow internally. Conversely, companies like Emerson (EMR) and United Technologies (UTX) dwell at the bottom of the list with fairly minimal new investment in their respective businesses. The low levels of Emerson and United Technologies are of particular note because both companies have strong balance sheets and dominant positions in their markets.