M+S Hydraulic AD (BUL:MSH) Strong Profits May Be Masking Some Underlying Issues

The recent earnings posted by M+S Hydraulic AD (BUL:MSH) were solid, but the stock didn't move as much as we expected. We believe that shareholders have noticed some concerning factors beyond the statutory profit numbers.

See our latest analysis for M+S Hydraulic AD

A Closer Look At M+S Hydraulic AD'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'.

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. While having an accrual ratio above zero is of little concern, we do think it's worth noting when a company has a relatively high accrual ratio. 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 March 2022, M+S Hydraulic AD recorded an accrual ratio of 0.27. Unfortunately, that means its free cash flow fell significantly short of its reported profits. To wit, it produced free cash flow of лв3.3m during the period, falling well short of its reported profit of лв22.6m. M+S Hydraulic AD shareholders will no doubt be hoping that its free cash flow bounces back next year, since it was down over the last twelve months. The good news for shareholders is that M+S Hydraulic AD's accrual ratio was much better last year, so this year's poor reading might simply be a case of a short term mismatch between profit and FCF. As a result, some shareholders may be looking for stronger cash conversion in the current year.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of M+S Hydraulic AD.

Our Take On M+S Hydraulic AD's Profit Performance

M+S Hydraulic AD didn't convert much of its profit to free cash flow in the last year, which some investors may consider rather suboptimal. Therefore, it seems possible to us that M+S Hydraulic AD's true underlying earnings power is actually less than its statutory profit. Nonetheless, it's still worth noting that its earnings per share have grown at 54% over the last three years. The goal of this article has been to assess how well we can rely on the statutory earnings to reflect the company's potential, but there is plenty more to consider. If you'd like to know more about M+S Hydraulic AD as a business, it's important to be aware of any risks it's facing. Be aware that M+S Hydraulic AD is showing 2 warning signs in our investment analysis and 1 of those is concerning...

This note has only looked at a single factor that sheds light on the nature of M+S Hydraulic AD's 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.