Forensics and the art of triangulation

Thanks for the encouraging words. So, here it goes as far cash a few common sense items on cash are concerned

cash and cash equivalents

Remember that most times these go hand in hand with current/non current investments too. Please read all three of them, pause for a while and take a deep breath and check if it all makes sense if you were a business owner.

Most companies are expected to give schedules for all three

cash and cash equivalents

typically should have

  • number of bank accounts
  • domicility (in case of truly multi national companies like infosys)
  • account numbers, if they are not too many in number -

Not giving any details/schedule for cash and cash equivalents is an amber flag and is worth digging. For one to get a flavour, please look at infosys, TCS

How to triangulate this

This is the key - every single item in PL and BS talks to another in the real world. If someone pinched you in your hand, your head flinches. Similarly so, cash and cash equivalents plus currrent investments (often used interchangeably in companies that have cash) ought to result in

  • other income (look at income yield - a Rs. 200 Cr. cash in FD/liquid funds/government bonds ought to yield anywhere from 5 % - 9 % annually on an average (remember, its average - not the end of the year figure - so a good approximation would be the average of opening and closing balance). For eg., in HTMT, even though the company claims they have cash, there is little to show in terms of " other income". Do remember that Indian rates are amongst the highest in the world and for any exporter who has a huge cost base in India, it makes sense to convert the forex into INR. In any case RBI mandates for a month period before which all forex has to be converted in EEFC (exchange earners foreign currency) account into INR. Again, it’s only INR that helps the Indian economy by percolating down as SLR, CRR, etc. through the banking system. So most branch managers are incentivized to ensure an early conversion because of

  • fee (forex conversion fee)

  • access to CASA plus FD/RD funds

  • unfunded liabilities in something very basic eg., PF, ESI, gratuity. If a company has adequate cash, why would you leave these unfunded.

  • sundry pending litigations - a company that has Rs. 200 Cr. cash will not leave a Rs. 1 lakh IT claim/excise claim unfunded. Again, this is subject to exceptions are a few MNC’s are subject to tax terrorism. But typically sundry claims like employee suing for Rs. 5-10 lakhs and claims outstanding for 5 years are not a healthy indication. For eg., there is a company that claims a few hundred crores in cash that has an unfunded gratuity liability of Rs. 4-5 Cr. - strange, right ?

Current investments /non current investments

  • here again, look for schedules that are as detailed as possible. There is no harm if the company invests into FD,RD, liquid mutual funds etc - but what one should be wary are investments into private company debentures, unlisted unknown companies etc. These are precious use of company’s cash and in india it’s not uncommon to see money invested in to relatives companies. Again, the only way to assess this is the materiality of the amount vis-a-vis the total amount. For eg., a company like SETCO, which I held for a while and sold, promoters were indiscriminately lending money into an initiative to build sports stadiums and sports clinics because the young scion wanted to help the community - great thought, but not with my money dearie, and not certainly when the core business itself is struggling.

Again, if you look at trend of other income, there has to be some profit boking/accrued income from the investments at frequent intervals. For eg., a Rs. 300 Cr. cash invested into various companies and zero dividend/profits for 3-4 years is something to think about.

More coming next week end. Improvisations welcome - writing this by itself helped clarify a few things and I am sure inputs form VP-ers will refine this for the betterment of everyone.


@varadharajan ranganathan , I am new to VP forum. I am really amazed by the content that is being shared and discussed over here. This thread will surely take that to the next level. I am already glued to this forum and have already bookmarked this thread. Happy sharing.

@varadharajan, thankyou for starting this thread,since I am new here would learn a lot reading.

Am sure this thread will take our understanding to another level. All the power to you and all ears.
Keen follower.

Hi guys,

great thread. One caveat while looking at balance sheet. Remember its a point in time representation. so take both good and bad with pinch of salt. look at cash flows and underlying business to triangulate. Let me give an example, and this happens typically in banks.

At quarter end or on year end they will book large loans and then disburse them into current account of clients. The current accounts are kept on no debit status for 1 day. So on year end u have both assets and CASA :smile:

but this can be challenged if u look at overall economy, cost of funds of banks etc


Hi all,

speaking from experience, here are some other red flags

  1. Continuous CAPEX. Any business that needs to keep investing to grow revenue is a self defeating cycle on the return of capital front. Its also a easy way to channel money out of the system.
  2. Low promoter salary. Do not for even a minute think the promoter is some magnanimous fellow who is working his butt off for you at a pittance. If the salary is low, means he is earning elsewhere
  3. Promoter owning another entity in a similar line of business. Do I need to elaborate this ?
  4. Increasing promoter pledge. If I was running a company in which I own a fraction, why would I pledge my shares for the benefit of the company. Also, ask the question how will the pledge be unwound ? Unless the promoter sells some of his free shares in the open market, there is no way to clear the pledged shares from the encumberance.
  5. Low dividend to EPS ratio. If the cash is real, most of it should get paid out to shareholders. Reinvesting in growth , etc is a good smokescreen promoters use. See through it.
  6. Too many acquisitions/equity dilutions. these tend to muddle the waters and prevent analysts/ investors to compare performance on a straight line basis. some promoters acquire companies only to confuse people tracking it.
  7. Stock splits. No benefit to anyone other than to confuse the average investor on the cheapness of the stock. The situation is now so bad that you hardly get any meaningful EPS from any company…most are like 1.12, 0.98 , etc for the quarter. Any company with any meaningful EPS is now priced over a 1000 bucks. think about it.

Wow Varadha, You Finally started what always was kept undiscussed. Well, over years, a lot of us certainly would have developed few so called red flags. Will be glad to contribute to this thread :smile:

Good initiative. Some of the case studies I would like to recommend are:

a) Tianhe Chemicals - All documents are available on Anonymous Analytics website. - A simple thing shown is that the entire market size for a material called Anti-Mar was not as big as the size of sales the company was claiming.

b) Current work on Herbalife by Bill Ackman.


Superb thread Vardha. It would be gold mine for many investors like me to learn how to identify red flags thought multiples perspectives.
Wanna share one simple metric many of us know: Add Operating cash flows for a decade and compare with corresponding PAT for decade. If PAT is substantially less than Cash flows, either company is booking profits aggressively or its cooking books. Either way its a red flag and can be checked if working capital is funded by another source of funds (eg: debt, FCCB, share dilution etc) since working capital is getting stretched by this difference in OPCF and PAT.


Some stocks are born great (e.g. Reliance Power)
Some achieve greatness (e.g. Eicher Motors)
Some have greatness thrust upon them (eCommerce (?))

Value investing i.e. the art of separating wheat from the chaff is picking the ones that fall in category 2 and shorting the other two categories (at least avoiding them since shorting is not easy in India). This of course requires going against what the world feels is ‘great’. It’s incredibly hard and requires guts, for which I commend you @varadharajanr Keep it up and good luck

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I agree, this one is very helpful tool to check the economic profits of the company. But I feel instead of just PAT, one should look at (PAT + Dep) and than compare it with Operating cash flow. If we just use PAT, it will always be lower than Operating Cash flow.

Good point jignesh, but I believe PAT + Dep will be too strict a criteria, especially where dep is not too much.
Also, remember we are identifying red flags, so if even PAT is more than Operating cash flows, certainly there is some issue to dig in more. There are many cos whr PAT is higher than OCFs. Hope it helps

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These are good points. thanks everyone. However, I am very keen on detailing these - I just do not want to brush anything with a broad brush - for eg., high receivables is bad, low CFO/EBITDA is bad etc. unless we can overlay it with an understanding of the business, where cash is used and how it is earned.

I am looking for specific examples, case studies rather than stereotypes as I want to minimize both alpha (not capturing an issue) and beta errors (assuming an issue exists whereas in reality it does not).

For eg., in opto circuits even though acquisition led sales growth was high, CFO’s were consistently negative and receivables were going through the roof, resulting in a cash crunch that ultimately turned debt repayments and investments into a tight squeeze.

Triangulation is about using at least 3-4 data points together to make a judgement to minimize systemic error - not just stereotyping using one single data point.


Hi Vardha,
Thanks for feedbacks and nice to learn from live/old examples than general rules.
However, we need to be very much aware that every company that does something fishy does it in its own in-genuine way. Hence, same game doesn’t get played out in every fraud, but major learning remains same. So, like in opto also, what comes out clear is that receivables were getting high with negative cash flows along & multiple acquisitions (Almost sure shot recipe for disaster). So, with every examples and study we do, its good to highlight broad learnings and thumb rules as takeaways for everyone.
Also, it would be great to test our learning and theory on companies in current situations and discuss which cos can have bleak future and will turn out to be disasters using our learning.
Hope it helps.

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Lets work on some live examples of stocks which are imploding as we speak.

Amtek Auto
Ess Dee

Lets keep the discussion away from the respective stock pages as boarders get too emotional about their holdings.

Looking from a pure analytical point of view, were there any red flags which if noticed could have saved investors a lot of their hard earned money.

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Recently started reading the book “Financial Shenanigans: How to Detect Accounting Gimmicks & Frauds in Financial Reports” to avoid where not to invest.Thought it will be useful for above discussion

Also, found a mini summary of various book points in blog.


Excellent thread @varadharajanr

Forensic diligence is a large part of my investing process. I go by what Harry Markopolos said “Assume fraud until genius is proven”. I prefer taking growth/business/execution/valuation risk and absolutely stay away from corporate governance risk. I am pretty sure despite my best efforts I will still end up investing in companies where management will screw the minority shareholders - largely because there is no full-proof way to address this risk.

I had earlier prepared a broad checklist for reducing corporate governance risk. If I get responses that do not satisfy me on even 3-4 of the below, I assume the worst and stay away.

  1.   Is the auditor reputed or a no-name entity?
       - Ideally, should audit at least a few listed companies.
       - Positive if audits a company known for good corporate governance and creating value for shareholders.
       - Negative if audits only unknown listed entities or companies with known corporate governance issues or does not audit any listed company
  2.   Is the Promoter/management salary reasonable?
       - Is it in range of industry standards and commensurate with the current size/profitability of the company?
       - Does management give itself long-dated warrants free of cost or any other such instrument which hurts minority shareholders?
  3.  Does the company pay taxes?
      - Paying taxes on reported profits is a big hurdle that any fraudulent business needs to cross. If tax payment is 0 (for whatever reason) be skeptical of the profits.
  4.   Has the OCF moved in-line with profitability? At least, over the long run?
      - Has OCF performance been below profitability due to deterioration in WC cycles? Is this too pronounced?
  5.   Has FCF moved in-line with profitability? At least, over the long run?
      - If not, is opex possibly being camouflaged as capex?
      - Is the amount of capex in-line with the business requirements?
  6.   Is Company profitability completely out of line from the industry profitability metrics?
       - If this is the case, does the industry have characteristics of a winner-take-all business model? Is similar characteristics also seen in other geographies where one company makes a lot of money even as the entire industry does bad to ok?
       - Can you explain with simple logic the reason for the out-performance of a single player compared to industry? Are you confusing a horse that counts with an exceptional mathematician?
  7.   Does the company have an insatiable appetite for equity capital?
       - The good companies rarely need to raise additional equity capital and definitely not frequently. Typically, equity capital is used to sustain Ponzi schemes.  
       - Has improvement in operating performance happened just before new equity funding? If so, was it a means to attract equity capital and increase valuation?
  8. Is the company over-leveraged? Are Promoter shares pledged?
       - Good companies are never over-leveraged. Inability to reduce debt is potentially a sign that the business does not generate enough “real” cash profits.
       - Promoter pledging is a serious red flag because it incentivizes the company to do everything to keep the stock price high
  9. Does the company have high related-party transactions?
  10. Does the management own other companies which do the same business?

  11. Is the balance sheet odd? Is it in-line with the balance sheet of a typical company in the industry?

  12. Does the management have an empire-builder mindset? Is the company highly acquisitive and prone to continuously entering new businesses (often unrelated)?

  13. Is the Board truly independent or largely comprising friends and family?

  14. Does the company’s cost structure reflect its stated business? For ex. the average employee costs of a company which claims to be in the software product biz should not be similar to a low-end IT services company.

  15. Does the stock price movement or volumes suggest some thing funny? If yes, it could be driven by non-fundamental reasons and often the Promoters tend to be hand in glove in such events. For ex: Look at the price and volume chart of the below company (let me know privately if you are able to figure out the name of the company) which has a market cap of over 2,500 crs. Notice how the volume number barely changes on a weekly basis. A real business will have volumes which have a significantly higher degree of randomness over such a long period of time.

I look forward to adding to my checklist based on inputs on this thread.


Excellent post which takes the discussion forward. My compliments to you.

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A few months back I had written a note on Vakrangee highlighting the red flags. The note was based on the reported financials and some management claims regarding biz economics which were too good to be true. (some of the data may be a few months old)

  1. No Free Cash Flow - While the Company has demonstrated strong earnings growth, the Company has not generated any free cash flow. High earnings growth with continuously -ve FCF is a red flag suggesting that earnings may not be real. Debt reduction that has happened over the last 1 year was also through equity issuance and not internal cash flows.

  2. Increasing Working Capital requirements - Over the last 5 years, Vakrangee’s net current assets have increased from 55 crs to 750 crs (13.5x increase) while sales have gone up from 295 cr to 1950 cr (6.5x increase). WC requirements increasing substantially faster than Sales is a red flag suggesting Sales may not be real.

  3. High capex on government business
    -Vakrangee incurred 228 crs in capex in FY14 (of which 197 crs is for Computers & Printers) towards the e-governance business. Vakrangee continuing to incur high capex for the government business does not make business sense considering the poor economics of the segment and low growth expected by the management.
    -197 crs in capex for computers and printers suggests the purchase of over 20,000 computers in a 1 year period. This number would significantly exceed the company’s employee count (permanent and contracted – Vakrangee incurred 31 crs in employee costs in FY14 and as per the opex breakup does not have significant sub-contracting expenses). The high capex does not match with the current scale of the company’s operations and this is probably opex classified as capex to boost earnings.

  4. Vakrangee Kendra (VK) economics - too good to be true
    -As per management, a typical VK requires very little upfront investment by the company with franchise bearing most of the capex and working capital costs. And a typical VK generates 10 lakhs in annual revenues with the franchise getting 70% share leading to 3 lakhs revenues per VK for Vakrangee. These numbers seem too high and are inconsistent with the realized economics of other companies such as FINO and ALW which have struggled in the BC business.
    -In March 2014, Vakrangee had 3,853 VKs which generated approx. 900 crs in Revenue in the full year. This implies Revenue/VK of 23 lakhs which is substantially higher than the management estimate of 10 lakhs per VK. If we consider that the VK rollout would have happened over the year, the average revenue/VK number would be even higher. These numbers are staggeringly high and hence in all likelihood fictitious.

  5. Exaggerated claims on White Label ATM (WLA) business –
    -Vakrangee has the license to install and operate 15,000 WLAs over a 3-year period (starting January 2014). Management claims the WLA ATM business will be extremely profitable. However, Vakrangee having installed less than a 100 ATMs over the last 14 months is contrary to management claims ( Management claims that they were trying to get RBI permission for new biometric ATM technology and hence the delay. This is difficult to believe considering all the other players (Tata, Prizm, BIT) have already started installing ATMs and now Vakrangee would have to make do with sub-par locations for their ATMs (location is the key driver of ATM transaction volumes). Vakrangee’s lack of progress on WLA ATM deployment is consistent with the market view that the WLA ATM business is economically unviable for most players (
    -Management has guided at installation of 5,000 ATMs over the next 3 months and another 5,000 over the next 9 months. Even the largest ATM players have been unable to achieve such a pace of ATM rollout. This number seems fairly exaggerated. Should be verified 3 months down the line if the company is anywhere close to even achieving its rollout target. (The company had made this claim 3 months back - they haven’t installed even 50 ATMs since then)

  6. Employee count inconsistent with claimed size of operations
    -As per management, Vakrangee currently has 1064 employees (150-200 at the corporate-level, 800-900 at block level for managing 12,000 VKs and identification and deployment of new VKs). The employee count is inconsistent with their current pace of VK rollout (37 per day) and planned ATM rollout (50 per day) over and above their government business. This suggests that the overall scale of operations is much smaller than what the management claims.

The biggest red flag for me at that time was the company’s capex on computers and printers of approx 20 lakhs per employee !!! A clear sign of opex being shown as capex.


@Mantri - maybe you should post your vakrangee note on the vakrangee thread for the benefit of the boarders who are invested in that company.