In a 1999 conference, forensic accountant Howard Schilit gave investors a useful trick for detecting potential danger in a stock. He said:
“Net income and cash flow from operations should track pretty closely. If cash flow from operations lags behind net income, usually the results are going to be very bad.”
One such company with this trait is Swiber Holdings Limited (SGX: BGK), the infamous support services provider to the oil & gas industry that recently collapsed. The company had generated a profit in each year from 2006 to 2014, but failed to produce positive operating cash flow with any sort of consistency. You can see it below:
Source: S&P Global Market Intelligence
Having an inability to generate cash flow despite clocking profits may not have been the direct trigger or even a big reason for Swiber’s fall, but it could still have been a useful yellow flag to alert investors that potential problems may lie ahead.
In any case, I thought it would be interesting to screen through Singapore’s stock market to see which companies meet both criteria:
- Generated a profit in each of its last three fiscal years
- Had negative operating cash flow in each of its last three fiscal years
Turns out, there were quite a number of companies that showed up on my screen. I ranked them all by market capitalisations and here are the six largest companies (highest market cap comes first): Oxley Holdings Ltd (SGX: 5UX), CEFC International Ltd (SGX: Y35), Aspial Corporation (SGX: A30), Hyflux Ltd (SGX: 600), Ying Li International Real Estate Ltd (SGX: 5DM), and Vibrant Group Ltd (SGX: BIP).
Now, a company with a few years of negative operating cash flow despite being profitable is by no means destined to be in serious jeopardy ahead. But if you see such a trait appear in the companies you’re invested in, you might want to spend some time digging in to make sure everything is all right. Remember Schilit’s words.
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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Chong Ser Jing doesn't own shares in any company mentioned.