It might be old fashioned, but we really like to invest in companies that make a profit, each and every year. Having said that, sometimes statutory profit levels are not a good guide to ongoing profitability, because some short term one-off factor has impacted profit levels. This article will consider whether Flexium Interconnect‘s (TPE:6269) statutory profits are a good guide to its underlying earnings.
While Flexium Interconnect was able to generate revenue of NT$26.0b in the last twelve months, we think its profit result of NT$3.15b was more important. Happily, it has grown both its profit and revenue over the last three years (though we note its revenue is down over the last year).
Of course, it is only sensible to look beyond the statutory profits and question how well those numbers represent the sustainable earnings power of the business. So today we’ll look at what Flexium Interconnect’s cashflow tells us about the quality of its earnings. That might leave you wondering what analysts are forecasting in terms of future profitability. Luckily, you can click here to see an interactive graph depicting future profitability, based on their estimates.
A Closer Look At Flexium Interconnect’s Earnings
As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company’s free cash flow (FCF) matches its profit. To get the accrual ratio we first subtract FCF from profit for a period, and then divide that number by the average operating assets for the period. This ratio tells us how much of a company’s profit is not backed by free cashflow.
As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. While it’s not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. To quote a 2014 paper by Lewellen and Resutek, “firms with higher accruals tend to be less profitable in the future”.
For the year to December 2019, Flexium Interconnect had an accrual ratio of 0.63. As a general rule, that bodes poorly for future profitability. And indeed, during the period the company didn’t produce any free cash flow whatsoever. Over the last year it actually had negative free cash flow of NT$2.5b, in contrast to the aforementioned profit of NT$3.15b. We saw that FCF was NT$1.3b a year ago though, so Flexium Interconnect has at least been able to generate positive FCF in the past.
Our Take On Flexium Interconnect’s Profit Performance
As we discussed above, we think Flexium Interconnect’s earnings were not supported by free cash flow, which might concern some investors. As a result, we think it may well be the case that Flexium Interconnect’s underlying earnings power is lower than its statutory profit. But at least holders can take some solace from the 25% per annum growth in EPS for the last three. Of course, we’ve only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. So if you’d like to dive deeper into this stock, it’s crucial to consider any risks it’s facing. For example, Flexium Interconnect has 2 warning signs (and 1 which is concerning) we think you should know about.
This note has only looked at a single factor that sheds light on the nature of Flexium Interconnect’s profit. But there is always more to discover if you are capable of focussing your mind on minutiae. Some people consider a high return on equity to be a good sign of a quality business. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.
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