Statistically speaking, it is less risky to invest in profitable companies than in unprofitable ones. 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 Mayfield Childcare (ASX:MFD).
It’s good to see that over the last twelve months Mayfield Childcare made a profit of AU$2.96m on revenue of AU$36.5m. Happily, it has grown both its profit and revenue over the last three years (though we note its profit is down over the last year).
Not all profits are equal, and we can learn more about the nature of a company’s past profitability by diving deeper into the financial statements. As a result, we think it’s well worth considering what Mayfield Childcare’s cashflow (when compared to its earnings) can tell us about the nature of its statutory profit. 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 Mayfield Childcare’s Earnings
Many investors haven’t heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company’s profit is backed up by free cash flow (FCF) during a given period. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company’s average operating assets over that period. You could think of the accrual ratio from cashflow as the ‘non-FCF profit ratio’.
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. 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 2020, Mayfield Childcare had an accrual ratio of -0.12. Therefore, its statutory earnings were quite a lot less than its free cashflow. To wit, it produced free cash flow of AU$7.8m during the period, dwarfing its reported profit of AU$2.96m. Mayfield Childcare’s free cash flow improved over the last year, which is generally good to see.
Our Take On Mayfield Childcare’s Profit Performance
As we discussed above, Mayfield Childcare has perfectly satisfactory free cash flow relative to profit. Because of this, we think Mayfield Childcare’s earnings potential is at least as good as it seems, and maybe even better! And on top of that, its earnings per share have grown at an extremely impressive rate over the last three years. 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. In light of this, if you’d like to do more analysis on the company, it’s vital to be informed of the risks involved. For example, we’ve discovered 3 warning signs that you should run your eye over to get a better picture of Mayfield Childcare.
This note has only looked at a single factor that sheds light on the nature of Mayfield Childcare’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. 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.
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