Should You Rely On Morneau Shepell's (TSE:MSI) Earnings Growth?

It might be old fashioned, but we really like to invest in companies that make a profit, each and every year. That said, the current statutory profit is not always a good guide to a company's underlying profitability. Today we'll focus on whether this year's statutory profits are a good guide to understanding Morneau Shepell (TSE:MSI).

While Morneau Shepell was able to generate revenue of CA$927.2m in the last twelve months, we think its profit result of CA$49.2m was more important. Happily, it has grown both its profit and revenue over the last three years, as you can see in the chart below.

See our latest analysis for Morneau Shepell

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. In this article we'll look at how Morneau Shepell is impacting shareholders by issuing new shares, as well as how unusual items have affected the income line. 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.

One essential aspect of assessing earnings quality is to look at how much a company is diluting shareholders. In fact, Morneau Shepell increased the number of shares on issue by 5.9% over the last twelve months by issuing new shares. That means its earnings are split among a greater number of shares. To celebrate net income while ignoring dilution is like rejoicing because you have a single slice of a larger pizza, but ignoring the fact that the pizza is now cut into many more slices. You can see a chart of Morneau Shepell's EPS by clicking here.

A Look At The Impact Of Morneau Shepell's Dilution on Its Earnings Per Share (EPS).

Morneau Shepell has improved its profit over the last three years, with an annualized gain of 80% in that time. In comparison, earnings per share only gained 46% over the same period. And the 205% profit boost in the last year certainly seems impressive at first glance. But in comparison, EPS only increased by 184% over the same period. So you can see that the dilution has had a bit of an impact on shareholders. Therefore, the dilution is having a noteworthy influence on shareholder returns. And so, you can see quite clearly that dilution is influencing shareholder earnings.

In the long term, earnings per share growth should beget share price growth. So it will certainly be a positive for shareholders if Morneau Shepell can grow EPS persistently. However, if its profit increases while its earnings per share stay flat (or even fall) then shareholders might not see much benefit. For the ordinary retail shareholder, EPS is a great measure to check your hypothetical "share" of the company's profit.

The Impact Of Unusual Items On Profit

Finally, we should also consider the fact that unusual items boosted Morneau Shepell's net profit by CA$21m over the last year. While we like to see profit increases, we tend to be a little more cautious when unusual items have made a big contribution. When we crunched the numbers on thousands of publicly listed companies, we found that a boost from unusual items in a given year is often not repeated the next year. Which is hardly surprising, given the name. We can see that Morneau Shepell's positive unusual items were quite significant relative to its profit in the year to March 2020. All else being equal, this would likely have the effect of making the statutory profit a poor guide to underlying earnings power.

Our Take On Morneau Shepell's Profit Performance

To sum it all up, Morneau Shepell got a nice boost to profit from unusual items; without that, its statutory results would have looked worse. On top of that, the dilution means that its earnings per share performance is worse than its profit performance. Considering all this we'd argue Morneau Shepell's profits probably give an overly generous impression of its sustainable level of profitability. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. For instance, we've identified 4 warning signs for Morneau Shepell (1 doesn't sit too well with us) you should be familiar with.

Our examination of Morneau Shepell has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. But there are plenty of other ways to inform your opinion of a company. Some people consider a high return on equity to be a good sign of a quality business. While it might take a little research on your behalf, you may find this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying to be useful.

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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. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned. Thank you for reading.