Although headlines still spray earnings figures all over the media every day, many investors have moved past net earnings as a measure of a company's economic output. That's because an earnings statement is very often less trustworthy than a cash flow statement, since it's more open to manipulation based on dubious judgment calls.

The unreliability of the income statement is one of the reasons Foolish investors often flip straight past the income statement and balance sheet to eyeball the cash flow statement. In general, by taking a close look at the cash moving in and out of the business, you can get a better look at whether or not the last batch of earnings brought money into the company, or merely disguised a cash gusher with a pretty headline.

Calling all cash flows
It's worth checking up on your companies' free cash flow (FCF) once a quarter or so, to see whether it bears any relationship to the net income in the headlines. That brings us to Research In Motion (Nasdaq: RIMM), which has produced $2,491 million in FCF over the trailing 12 months, compared to $2,583 million in net income.


That means that Research In Motion turned 16% of its revenues into FCF. That looks pretty amazing. But it always pays to compare that figure to sector and industry peers and competitors, to see how your company stacks up. By the standards of other handset makers, Research In Motion is only reasonable. By the standards of new giants on the block like Google (Nasdaq: GOOG) and Apple (Nasdaq: AAPL), Research In Motion is barely getting the job done. Sure, Google is just providing a phone OS for now, but Apple makes hardware and software, like Research In Motion does. Yet Apple is already much more cash profitable, and still taking market share.

Company

LTM Revenue

TTM FCF

TTM FCF Margin

 Google

 $ 26,214

 $ 9,003

34%

 Garmin

 $ 2,941

 $ 955

32%

 Apple

 $ 51,123

 $ 12,136

24%

 HTC

 $ 4,691

 $ 794

17%

 Hewlett-Packard (NYSE: HPQ)

 $ 120,388

 $ 8,979

7%

Among its competitors and peers, Google comes in with the highest FCF margin (defined as FCF / trailing-12-month revenue), with 34% of its revenue turning into FCF.

All cash is not equal
Unfortunately, the cash flow statement isn't immune from nonsense, either. That's why it pays to take a close look at the components of free cash flow from operations. We want sources of cash that are real and replicable in the upcoming quarters, not offset by continual cash outflows that don't appear on the income statement (such as major capital expenditures). For instance, cash flow based on cash net income and predictable depreciation is generally good stuff. An increase in cash flow based on stiffing your suppliers (by increasing accounts payable) or shortchanging Uncle Sam on taxes? That will come back to bite investors later. The same goes for decreasing accounts receivable. This is good to see, but it's ordinary in recessionary times, and you can only increase collections so much.

So, how does the cash flow at Research In Motion look? Take a peek at the chart below, which flags questionable cash flow sources with a red bar.


When I say "questionable cash flow sources," I mean line items such as changes in taxes payable, tax benefits from stock options, and asset sales, among others. That's not to say that companies booking these as sources of cash flow are weak or are engaging in any sort of wrongdoing. But whenever a company is getting more than, say, 10% of its cash from operations from these questionable sources, I feel obliged to crack open the filings and dig even deeper, to make sure I'm in touch with the true cash profitability.

With questionable cash sources comprising 3% of the cash flow from operations for Research In Motion, I'm pretty confident that things are OK on that front. Its cash flows look pretty clean -- but the competition from Apple and HTC that ought to worry shareholders.

A Foolish final thought
If you take the time to read past the headlines and crack a filing now and then, you're probably ahead of 95% of the individual investors out there. By keeping an eye on the health of your companies' cash flow, you can spot potential trouble early, or figure out if Mr. Market's pessimism is warranted by the numbers. Let us know what you think of the health of the cash flows at Research In Motion in the comments box below. Or, if you're itching to learn more, head on over to our quotes page to view the filings directly.

At the time of publication, Seth Jayson had no position in any company mentioned here. He is co-advisor of Motley Fool Hidden Gems, which provides new small-cap ideas every month, backed by a real-money portfolio. The Motley Fool has a disclosure policy.