Thank you for making our brains working again
Here is my side of story, if I ponder over what you are saying is “Cash
Flow from Operations”> 20% of total assets
It’s a popular ratio for budgeting process as it gives some estimation of
when cash will be available. It’s similar to Return on Assets, then we are
talking about efficiency. The mute question for now would be can we ignore
profitability, financial leverage etc?
Let’s take a reverse direction, is it possible for a company which has
reported net loss with a positive cash flow operations? Of course yes,
initial years due to high capital expenditure depreciation and interest
could be high. Question is would a high capex and high leverage translates
to future earnings engine? May be yes or no. As a matter fact while I was
digging 125 performers of last decade there were very few who were
Straight direction now- profit on books and negative cash flow from
operations. A prolonged cash conversion cycle may create a negative cash
flow but not necessarily a dud company.
Fair, let’s use Cash flow from Ops to total assets as successful ratio for
potential ratio. Then why is this working? When does it work?
In my opinion it may work for companies a. with a high inventory base and
efficient cash conversion cycle. b. lower tangible asset base company c.
company with little obligations or liabilities. High margins, pricing power
I couldn’t correlate directly to cash/assets ratio.
Ok, what happens to plastic and textiles industries. Lets check some
performers from there:
- Mayur uniquoters- even with stellar 112 bagger Cash/assets is 10-12%.
Earnings has jumped 43 times in last ten years. Why such imbalance then?
Cash conversion cycle is 90 days, its not low but that’s the more or less
norm of that industry. Check their working capital to sales ratio, it will
- Indo count- another 55-60 bagger. even in best of years cash/total
assets is 16%. Whopping 115 days of cash conversion cycle days.
Why did Symphony work? 1 month cash conversion, low financial leverage all
adding to a modest total assets.
In short, you would miss those companies who where there is a loss but cash
from ops is positive. Depending on situation they can be bad or good. And
that may include a big chunk of inventory based companies as well.
Companies taking out big dividends also will struggle with this number.