6.33Financial red flags to avoid
1What is it?
Warning signs that a company may be weak, risky or even dishonest.
2Why does it exist?
Avoiding disasters matters more than finding the next big winner.
3Diagram
| Red flag | Why it worries investors |
|---|---|
| Profit rising but operating cash flow negative for years | Profits may not be real |
| Debt rising much faster than profits | Growing repayment risk |
| High or rising promoter pledging | Forced selling risk; promoter cash stress |
| Receivables growing far faster than sales | Customers not paying or sales being inflated |
| Frequent auditor resignations or qualified opinions | Possible accounting issues |
| Many related-party transactions | Money may leak to promoters |
| Repeated equity dilution | Your share of the company keeps shrinking |
| Huge "other income" vs operating profit | Core business may be weak |
| Stock pumped on social media with no fundamentals | Possible manipulation |
4Quick revision
- Cash, debt, pledging, receivables, auditors, related parties, dilution.
- Avoiding big losers is key.
5Knowledge check
Q1. Profit up but CFO negative for 3 years. Concern?Show answer
Yes. Profits may not be converting to cash.
Q2. Why is promoter pledging risky?Show answer
A price fall can trigger forced sale of pledged shares.
Q3. What is equity dilution?Show answer
Issuing new shares that reduces existing holders’ ownership %.