08/05/96 HOW THIS BEAR CRUNCHES THE NUMBERS

HOW THIS BEAR CRUNCHES THE NUMBERS

Most cash-flow sleuths looking for companies in trouble begin with operating cash flow. But cash-flow specialists at Ernst Institutional Research in Boston have gone a step further.
Using a technique known as dual cash-flow analysis, which compares the cash a company is getting from operations with cash coming from its balance sheet, they can often spot signs of deteriorating fundamentals well before traditional cash-flow analysts can. ``If we see a fall in operating cash flow, paired with an abrupt shift in the way a company manages its balance sheet, that's a sign that management sees trouble ahead,'' says Ernst President Jeffrey D. Fotta, whose tiny firm provides research to the likes of Fidelity Investments, Signet Banking, and other major institutions.
One recent success: By watching the buildup in capital expenditures and inventories throughout the semiconductor industry even as many companies were logging falling OCF, Ernst warned clients away from chipmaker stocks in mid-1995, well before recent earnings problems surfaced.
How does dual cash-flow analysis work? The biggest difference between dual and standard cash-flow analysis is in how the numbers are defined. Unlike conventional measures, Ernst counts changes in accounts payable and receivable as part of balance-sheet cash flow rather than operating cash flow.
That's because those numbers can be massaged: Management has lots of leeway in stretching out payments or speeding collection of its receivables when its returns from sales start to slow down. ``Management only has so many levers to pull when they hit trouble,'' says Fotta. ``It's the first place they turn for cash.''
Using those reworked numbers, Ernst then creates a number comparing operating cash flow with balance-sheet cash, which it calls dual cash flow. When dual cash flow is positive, that means a company is meeting its cash needs from operations. When dual cash flow turns negative, the company is turning to debt or other balance-sheet maneuvers for the cash it needs. That may be sustainable in the short term--or in periods of strong growth--but it can't last forever.
By Jane A. Sasseen in New York