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Fool Canada’s first 1,000%+ winner?

Our Chief Investment Advisor, Iain Butler, and a team of The Motley Fool’s most talented investors from across the globe recently embarked on an unprecedented mission:

To identify the 20 Canadian small-cap companies they believe have the best shot at earning investors like you gains of 1,000%+ over the coming years.

For the next few days only, you can get the names and full details on these 20 potential “10-baggers” when you join Iain and his team in a first-of-its-kind project they have dubbed Discovery Canada 2017.

Why Cash Flow Is a Better Indicator Than Earnings

Cash flow is what keeps companies alive, thriving, investing in their businesses, and giving back to shareholders. More specifically, free cash flow, which is the company’s cash flow after it has made necessary capital expenditures for the business, reflects the cash the company has generated over and above expenses, thus giving a better indication of the long-term health and prospects of a company.

Earnings, however, is an accounting measure that allows some flexibility in how transactions are recorded to give an accurate picture of the company’s financials in certain periods. Unfortunately, this flexibility also means that it is subject to manipulation that can inflate the earnings power of a company, whether it is intentional or not.

So, what we as investors should be looking for is a company that produces a high-quality earnings-per-share (EPS) number — a number that is relatively close to the cash that a company actually earned and, ideally, is even higher than what the company reported as earnings.

What are some examples of this?

Power Financial Corp. (TSX:PWF) had a free cash flow yield of 14% in 2016, although this has come down from prior years (15.9% in 2015 and 19.6% in 2013) due to industry challenges and company-specific challenges that Power Financial’s subsidiaries, IGM and Great West Life, have been experiencing.

IGM has been negatively affected by weakening sales, increased competition, and fee pressure. Great West Life continues to struggle with low interest rates.

On a more positive note, Power Financial increased its dividend last quarter by 5.1%, and its dividend yield now stands an attractive 4.85%.

Another company that has performed well with respect to the cash flow generation is Celestica Inc. (TSX:CLS)(NYSE:CLS). Year after year, the company continues to report cash flow from operations that is higher than its net income — a very good position to be in.

And lastly, after a couple of years of downward pressure on Avigilon Corp.’s (TSX:AVO) margins, it looks like they are showing signs of strengthening. In 2016, cash flow from operations of $43 million exceeded net income of $7.2 million, and the company had a cash flow margin of 12.2% (free cash flow was $6 million for a free cash flow margin of 1.7%, reflecting continued elevated spending on growth).

Bottom line

So, at the very least, investors should keep in mind that they should not look at EPS in isolation. Always be sure to also evaluate a company’s ability to generate cash flow and its history of cash flow generation, because, ultimately, this is what really matters.


36-Year Old CEO Bets Over $300 Million on 1 Stock

Iain Butler, Lead Adviser of Stock Advisor Canada, recommended this little tech darling to thousands of loyal members last March... and those that followed his advice are up 127.7% (they've already made 2X their money!).

Not to mention this tiny Eastern Ontario company has already been recommended by both Motley Fool co-founders, David and Tom Gardner, because of its amazing similarity to an "early stage" Amazon.

Find out why Tom Gardner was recently on BNN's Money Talk raving about this company, and how you can read all about it inside Stock Advisor Canada. Click here to unlock all the details about his Canadian rule breaker!

 

Fool contributor Karen Thomas owns shares of Avigilon and CELESTICA INC. SV. Avigilon is a recommendation of Stock Advisor Canada.

NEW! This Stock Could Be Like Buying Amazon In 1997

For only the 5th time in over 14 years, Motley Fool co-founder David Gardner just issued a Buy Recommendation on this recent Canadian IPO.

Stock Advisor Canada’s Chief Investment Adviser, Iain Butler, also recommended this company back in March – and it’s already up a whopping 57%!

Enter your email address below to find out how you can claim your copy of this brand new report, “Breakthrough IPO Receives Rare Endorsement.”

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