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Subject:  Re: NFSC 2012 – Eros Int (EROS) – In Date:  23/02/2012  12:34
Author:  CantEatValue Number:  136660 of 149787

I'm surprised there has been no further comment on this share as it's quite an interesting case and has garnered a lot of recs. The story looks good, the profits look good and the potential looks even better.

However, I'm now going to argue that not everything is as rosy as it currently seems. I'm a bit old fashioned in that I think the value of a business is the present value of the future cash flows it can generate. EROS, as it currently stands, does not generate any cash flow. It burns cash at a pretty sizeable rate and has done for the past five years.

So why then is it churning out such impressive profit growth? If I had to title this post, it would be 'Not all earnings are worth the same'. Investors would be well served by paying more attention to the cash flow statement to understand what's happening to their money.

All the 'profits' of the last five years have just been due to a gigantic build up in intangibles, my least favourite asset. If the accounting were to be more conservative and they expensed all this asset build up directly they'd have made no profit at all. The company has only been cash flow generative in one year of the last five and needs to keep tapping the equity and debt markets to keep up with this cash burn. Not only that, the huge capex spends haven't even been all that successful in producing growth even with the generous accounting, with return on equity having dropped every year in the last five.

I try and view the cash flow like I would if I were a private owner of the business, so I ask myself 'what cash am I left with, after taking in all my revenues and paying out all my expenses?'. Due to the way EROS capitalise a large proportion of their operating expenses, it takes costs out of the operating cash flow line and in to the investing cash flow line. For example, here is what they showed for last year:

Net Operating cash flow (After Interest & Tax): £62,947

Investing cash flows (Capex): -£85,432

Combined cash flows from operating and investing lines