There's no foolproof way to know the future for Adobe Systems (Nasdaq: ADBE) or any other company. However, certain clues may help you see potential stumbles before they happen -- and before your stock craters as a result.

Our crystal ball
I often use accounts receivable (AR) and days sales outstanding (DSO) to judge a company's earnings health and future prospects. Alone, AR -- the amount of money owed the company -- and DSO -- days worth of sales owed to the company -- don't tell you much. But by considering the trends in AR and DSO, you can get a window onto the future.

AR that grows more quickly than revenue, or ballooning DSO, can suggest a desperate company that's trying to boost sales by giving its customers overly generous payment terms. Alternately, it can indicate that the company sprinted to book a load of sales at the end of the quarter, like used-car dealers on the 29th of the month. (Sometimes, companies do both.)

Why might an upstanding firm like Adobe Systems do this? Same reason any other company might: to make the numbers. Investors don't like revenue shortfalls, and employees don't like reporting them to their superiors.

Is Adobe Systems sending any warning signs? Consider the chart below, which plots revenue growth against AR growth and DSO:


Source: Capital IQ, a division of Standard & Poor's. Data is current as of last fully reported fiscal quarter. FQ = fiscal quarter.

The standard way to calculated DSO uses average accounts receivable. I prefer to look at end-of-quarter (EOQ) receivables, but I've plotted both above.

Watching the trends
When that red line (AR growth) crosses above the green line (revenue growth), I know I need to consult the filings. Similarly, a spike in the blue bars (DSO) indicates a trend worth worrying about. As another reality check, it's reasonable to consider what a normal DSO figure might look for other software companies:

Company

LFQ Revenue

DSO

 Adobe Systems

$943

38

 Intuit (Nasdaq: INTU)

$1,607

19

 Symantec (Nasdaq: SYMC)

$1,433

45

 Oracle (Nasdaq: ORCL)

$9,505

46

 BMC Software (Nasdaq: BMC)

$461

56

Source: Capital IQ, a division of Standard & Poor's. DSO calculated from average AR. Data is current as of last fully reported fiscal quarter. LFQ = last fiscal quarter. Dollar figures in millions.

Differences in business models can generate variations in DSO, so don't consider this the final word -- just a way to add some context to the numbers. But let's get back to our original question: Will Adobe Systems miss its numbers in the next quarter or two?

I wouldn't be surprised if it had trouble on the top line during the next quarter or two. For the last fully reported fiscal quarter, Adobe Systems's year-over-year revenue growth was 33.8%, and its AR growth was 67.2%. That's a yellow flag. End-of-quarter DSO increased 25% over the prior-year quarter; it was up 14.1% versus the prior quarter. That demands a good explanation. Still, I'm no fortuneteller, and these are just numbers. Investors putting their money on the line always need to draw their own conclusions. How you play it is up to you.

What now?
I use this kind of analysis to figure out which investments I need to watch more closely, or avoid altogether, in my never-ending quest to find the home run stock you're too afraid to buy. However, some investors actively seek out companies on the wrong side of AR trends in order to sell them short, profiting when they eventually fall.

My colleague John Del Vecchio, CFA, has made a career out of using analysis like this to spot companies about to fall, then shorting them before the market gets wise. It's just one of many tools he employs as he digs through financials. If you want to learn more about how he does it, check out his free report.

Seth Jayson had no position in any company mentioned here at the time of publication. You can view his stock holdings here. He is co-advisor of Motley Fool Hidden Gems, which provides new small-cap ideas every month, backed by a real-money portfolio. Adobe Systems is a Motley Fool Stock Advisor recommendation. The Fool owns shares of Oracle. Try any of our Foolish newsletter services free for 30 days. The Motley Fool has a disclosure policy.