We Think TPC Consolidated's (ASX:TPC) Healthy Earnings Might Be Conservative

Investors signalled that they were pleased with TPC Consolidated Limited's (ASX:TPC) most recent earnings report, with a strong stock price reaction. Looking deeper at the numbers, we found several encouraging factors beyond the headline profit numbers.

See our latest analysis for TPC Consolidated

Examining Cashflow Against TPC Consolidated's 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. The accrual ratio subtracts the FCF from the profit for a given period, and divides the result by the average operating assets of the company over that time. This ratio tells us how much of a company's profit is not backed by free cashflow.

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.

Over the twelve months to December 2020, TPC Consolidated recorded an accrual ratio of -0.39. Therefore, its statutory earnings were very significantly less than its free cashflow. To wit, it produced free cash flow of AU$7.7m during the period, dwarfing its reported profit of AU$4.70m. TPC Consolidated shareholders are no doubt pleased that free cash flow improved over the last twelve months.

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

Our Take On TPC Consolidated's Profit Performance

As we discussed above, TPC Consolidated's accrual ratio indicates strong conversion of profit to free cash flow, which is a positive for the company. Because of this, we think TPC Consolidated's underlying earnings potential is as good as, or possibly even better, than the statutory profit makes it seem! Better yet, its EPS are growing strongly, which is nice to see. 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 TPC Consolidated as a business, it's important to be aware of any risks it's facing. At Simply Wall St, we found 3 warning signs for TPC Consolidated and we think they deserve your attention.

This note has only looked at a single factor that sheds light on the nature of TPC Consolidated's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. 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 that insiders are buying.

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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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