If you want to find winning -- or losing -- stock ideas, you'll need to understand what lies beneath a company's reported revenue. Many investors screen on metrics like net income or related measurements such as EBIT, EBITDA, or operating cash flow. But companies know that Wall Street is closely monitoring these factors, and they can sometimes attempt to massage their numbers in hopes of providing a "good story" for investors.

Investors can get a much better picture of a company's true revenue or cash flow story by looking into the quality of earnings instead. Diligent Fools will play the role of forensic accountant, reading all of a company's SEC filings and financial statements in search of accounting tricks that might be masking deteriorating company performance. To help your investigation, I've uncovered a powerful shortcut: subtracting net income from operating cash flow.

Let's test how well this shortcut works by rounding up a clutch of companies with five-year annualized growth rates greater than 10%. Then we'll rank these contenders with my quality-of-earnings metric, divided by each company's market cap to normalize the candidates' different sizes.

Here are the top two and bottom two companies in my quality-of-earnings screen:

Top quality of earnings

Company

5-Year Revenue Growth

Quality of Earnings Metric Value

Crimson Exploration (Nasdaq: CXPO)

103.81%

2.26

W&T Offshore (NYSE: WTI)

10.10%

1.93

Source: Capital IQ, a division of Standard and Poor's, and author calculations. Figures are the average of five one-year growth rates since 2005.

Bottom quality of earnings

Company

5-Year Revenue Growth

Quality of Earnings Metric Value

Atlas Energy (Nasdaq: ATLS)

25.94%

(5.92)

EXCO Resources (NYSE: XCO)

52.39%

(1.61)

And let's look at how companies have performed over the past decade when ranked by my simple quality-of-earnings metric:

G

The graphs tell the story
Higher quality of earnings companies significantly outperform lower quality of earnings companies. Quantile 1 stocks (with the highest earnings quality) generated nearly 20% annualized returns while Quantile 5 stocks (lowest earnings quality) returned about 5%.

Clearly, the revenue growth story for the oil and gas companies above is an inadequate measure to evaluate these companies.  Our earnings quality screen (and decade of corroborating evidence!) suggests that Crimson Exploration and W&T Offshore are our buy candidates and Atlas Energy and EXCO Resources might potentially even be shorting opportunities. Of course, before pulling the trigger, investors should do their homework to get an even better and more comprehensive picture of quality of earnings and earnings growth.

Finding companies to short using a quality of earnings screen will take more than my simple quality of earnings shortcut. That's why John Del Vecchio, CFA, a leading forensic accountant and The Motley Fool's shorting specialist, put together a detailed report that shows you how to spot five serious red flags that can help you detect time bombs in your portfolio and lead you to the next big short. You can get the entire report free by clicking here or by entering your email address in the box below.

John Keeling has no position in any company mentioned. W&T Offshore is a Motley Fool Hidden Gems pick. Try any of our Foolish newsletter services free for 30 days. True to its name, The Motley Fool is made up of a motley assortment of writers and analysts, each with a unique perspective; sometimes we agree, sometimes we disagree, but we all believe in the power of learning from each other through our Foolish community. The Motley Fool has a disclosure policy.