Renascor Resources (ASX:RNU) Strong Profits May Be Masking Some Underlying Issues

The stock price didn't jump after Renascor Resources Limited (ASX:RNU) posted decent earnings last week. We think that investors might be worried about some concerning underlying factors.

See our latest analysis for Renascor Resources

Zooming In On Renascor Resources' 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). 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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

Therefore, it's actually considered a good thing when a company has a negative accrual ratio, but a bad thing if its accrual ratio is positive. 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Over the twelve months to December 2023, Renascor Resources recorded an accrual ratio of 0.27. Unfortunately, that means its free cash flow fell significantly short of its reported profits. Even though it reported a profit of AU$1.78m, a look at free cash flow indicates it actually burnt through AU$12m in the last year. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of AU$12m, this year, indicates high risk.

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 Renascor Resources' Profit Performance

Renascor Resources' accrual ratio for the last twelve months signifies cash conversion is less than ideal, which is a negative when it comes to our view of its earnings. Because of this, we think that it may be that Renascor Resources' statutory profits are better than its underlying earnings power. The good news is that it earned a profit in the last twelve months, despite its previous loss. At the end of the day, it's essential to consider more than just the factors above, if you want to understand the company properly. If you'd like to know more about Renascor Resources as a business, it's important to be aware of any risks it's facing. Case in point: We've spotted 2 warning signs for Renascor Resources you should be aware of.

This note has only looked at a single factor that sheds light on the nature of Renascor Resources' 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. 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.