Cash Flow Shenanigans: Part 3.

This part expands the discussion to the Statement of Cash Flows. Since investors have started placing more emphasis on cash flow from operations (CFFO), not surprisingly, management has tried to perfect a new class of shenanigans—those that inflate the CFFO. 

Four general Cash Flow (CF) Shenanigans are used to inflate CFFO, and they are reflected in the accompanying boxes. 

Warning Signs: Shifting Financing Cash Inflows to the Operating Section (CF Shenanigan No. 1)

• Recording bogus CFFO from a normal bank borrowing 
• Boosting CFFO by selling receivables before the collection date 
• Disclosures about selling receivables with recourse 
• Inflating CFFO by faking the sale of receivables 
• Changes in the wording of key disclosure items in the financial reports 
• Providing less disclosure than in the prior period 
• Big margin expansion shortly after an inventory write-off 

Warning Signs: Shifting Normal Operating Cash Outflows to the Investing Section (CF Shenanigan No. 2) 

• Inflating operating cash flow with boomerang transactions Improperly capitalizing normal operating costs 
• New or unusual asset accounts 
• Jump in soft assets relative to sales 
• Unexpected increase in capital expenditures 
• Recording purchase of inventory as an investing outflow 
• Investing outflows that sound like a normal cost of business 
• Purchasing patents, contracts, and development-stage technologies 

Warning Signs: Inflating Operating Cash Flow Using Acquisitions or Disposals (CF Shenanigan No. 3) 

• Inheriting Operating cash inflows in a normal business acquisition 
• Companies that make numerous acquisitions 
• Declining free cash flow while CFFO appears to be strong 
• Acquiring contracts or customers rather than developing them internally 
• Boosting CFFO by creatively structuring the sale of a business 
• New categories appearing on the Statement of Cash Flows 
• Selling a business, but keeping the related receivables 

Warning Signs: Boosting Operating Cash Flow Using Unsustainable Activities (CF Shenanigan No. 4) 

• Boosting CFFO by paying vendors more slowly 
• Accounts payable increasing faster than cost of goods sold Increases in other payables accounts 
• Large positive swings on the Statement of Cash Flows 
• Evidence of accounts payable financing 
• New disclosure about prepayments 
• Offering customers incentives to pay invoices early 
• Boosting CFFO by purchasing less inventory 
• Disclosure about the timing of inventory purchases 
• Dramatic improvements in CFFO 
• CFFO benefit from one-time items