Catalyst Metals (ASX:CYL) Strong Profits May Be Masking Some Underlying Issues

Catalyst Metals Limited's (ASX:CYL) healthy profit numbers didn't contain any surprises for investors. We believe that shareholders have noticed some concerning factors beyond the statutory profit numbers.

Our analysis indicates that CYL is potentially overvalued!

Examining Cashflow Against Catalyst Metals' 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.

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. That is not intended to imply we should worry about a positive accrual ratio, but it's worth noting where the accrual ratio is rather high. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

For the year to June 2022, Catalyst Metals had an accrual ratio of 0.32. Therefore, we know that it's free cashflow was significantly lower than its statutory profit, raising questions about how useful that profit figure really is. Over the last year it actually had negative free cash flow of AU$8.6m, in contrast to the aforementioned profit of AU$2.09m. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of AU$8.6m, this year, indicates high risk.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Catalyst Metals.

Our Take On Catalyst Metals' Profit Performance

As we have made quite clear, we're a bit worried that Catalyst Metals didn't back up the last year's profit with free cashflow. As a result, we think it may well be the case that Catalyst Metals' underlying earnings power is lower than its statutory profit. The silver lining is that its EPS growth over the last year has been really wonderful, even if it's not a perfect measure. 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. If you want to do dive deeper into Catalyst Metals, you'd also look into what risks it is currently facing. To help with this, we've discovered 2 warning signs (1 is concerning!) that you ought to be aware of before buying any shares in Catalyst Metals.

Today we've zoomed in on a single data point to better understand the nature of Catalyst Metals' profit. 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. 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.