We Wouldn't Rely On Essential Metals's (ASX:PIO) Statutory Earnings As A Guide

Broadly speaking, profitable businesses are less risky than unprofitable ones. That said, the current statutory profit is not always a good guide to a company's underlying profitability. This article will consider whether Essential Metals' (ASX:PIO) statutory profits are a good guide to its underlying earnings.

We like the fact that Essential Metals made a profit of AU$1.36m on its revenue of AU$9.13m, in the last year. Even though revenue has remained steady over the last three years, you can see in the chart below that the company has moved from loss-making to profitable.

View our latest analysis for Essential Metals

Of course, when it comes to statutory profit, the devil is often in the detail, and we can get a better sense for a company by diving deeper into the financial statements. Therefore, today we will consider the nature of Essential Metals' statutory earnings with reference to its dilution of shareholders and the impact of unusual items. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Essential Metals.

One essential aspect of assessing earnings quality is to look at how much a company is diluting shareholders. Essential Metals expanded the number of shares on issue by 33% over the last year. That means its earnings are split among a greater number of shares. Per share metrics like EPS help us understand how much actual shareholders are benefitting from the company's profits, while the net income level gives us a better view of the company's absolute size. Check out Essential Metals' historical EPS growth by clicking on this link.

A Look At The Impact Of Essential Metals' Dilution on Its Earnings Per Share (EPS).

Three years ago, Essential Metals lost money. The good news is that profit was up 374% in the last twelve months. On the other hand, earnings per share are only up 375% over the same period. And so, you can see quite clearly that dilution is having a rather significant impact on shareholders.

Changes in the share price do tend to reflect changes in earnings per share, in the long run. So it will certainly be a positive for shareholders if Essential Metals 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 Essential Metals' net profit by AU$210k over the last year. We can't deny that higher profits generally leave us optimistic, but we'd prefer it if the profit were to be sustainable. 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. And, after all, that's exactly what the accounting terminology implies. Assuming those unusual items don't show up again in the current year, we'd thus expect profit to be weaker next year (in the absence of business growth, that is).

Our Take On Essential Metals' Profit Performance

To sum it all up, Essential Metals 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. For the reasons mentioned above, we think that a perfunctory glance at Essential Metals' statutory profits might make it look better than it really is on an underlying level. If you want to do dive deeper into Essential Metals, you'd also look into what risks it is currently facing. You'd be interested to know, that we found 3 warning signs for Essential Metals and you'll want to know about these bad boys.

In this article we've looked at a number of factors that can impair the utility of profit numbers, and we've come away cautious. 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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