Woolworths Group's (ASX:WOW) Soft Earnings Don't Show The Whole Picture

Soft earnings didn't appear to concern Woolworths Group Limited's (ASX:WOW) shareholders over the last week. We did some digging, and we believe the earnings are stronger than they seem.

View our latest analysis for Woolworths Group

Zooming In On Woolworths Group's Earnings

In high finance, the key ratio used to measure how well a company converts reported profits into free cash flow (FCF) is the accrual ratio (from cashflow). In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. The ratio shows us how much a company's profit exceeds its FCF.

That means a negative accrual ratio is a good thing, because it shows that the company is bringing in more free cash flow than its profit would suggest. While having an accrual ratio above zero is of little concern, we do think it's worth noting when a company has a relatively high accrual ratio. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

For the year to June 2024, Woolworths Group had an accrual ratio of -0.19. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of AU$1.8b in the last year, which was a lot more than its statutory profit of AU$108.0m. Woolworths Group's free cash flow actually declined over the last year, which is disappointing, like non-biodegradable balloons.

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.

Our Take On Woolworths Group's Profit Performance

Happily for shareholders, Woolworths Group produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Woolworths Group's statutory profit actually understates its earnings potential! On the other hand, its EPS actually shrunk in the last twelve months. The goal of this article has been to assess how well we can rely on the statutory earnings to reflect the company's potential, but there is plenty more to consider. If you'd like to know more about Woolworths Group as a business, it's important to be aware of any risks it's facing. Be aware that Woolworths Group is showing 3 warning signs in our investment analysis and 1 of those is potentially serious...

Today we've zoomed in on a single data point to better understand the nature of Woolworths Group's profit. But there are plenty of other ways to inform your opinion of a company. For example, many people consider a high return on equity as an indication of favorable business economics, while others like to 'follow the money' and search out stocks that insiders are buying. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks with high insider ownership.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.