Shareholders Shouldn’t Be Too Comfortable With Lavvi Empreendimentos Imobiliários' (BVMF:LAVV3) Strong Earnings

Despite posting strong earnings, Lavvi Empreendimentos Imobiliários S.A.'s (BVMF:LAVV3) stock didn't move much over the last week. We think that investors might be worried about the foundations the earnings are built on.

Check out our latest analysis for Lavvi Empreendimentos Imobiliários

Examining Cashflow Against Lavvi Empreendimentos Imobiliários' Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. 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.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Lavvi Empreendimentos Imobiliários has an accrual ratio of 0.34 for the year to September 2024. 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. Even though it reported a profit of R$310.7m, a look at free cash flow indicates it actually burnt through R$156m in the last year. We also note that Lavvi Empreendimentos Imobiliários' free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of R$156m. Having said that, there is more to the story. We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio.

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.

How Do Unusual Items Influence Profit?

The fact that the company had unusual items boosting profit by R$47m, in the last year, probably goes some way to explain why its accrual ratio was so weak. While it's always nice to have higher profit, a large contribution from unusual items sometimes dampens our enthusiasm. 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 Lavvi Empreendimentos Imobiliários' Profit Performance

Lavvi Empreendimentos Imobiliários had a weak accrual ratio, but its profit did receive a boost from unusual items. Considering all this we'd argue Lavvi Empreendimentos Imobiliários' profits probably give an overly generous impression of its sustainable level of profitability. If you'd like to know more about Lavvi Empreendimentos Imobiliários as a business, it's important to be aware of any risks it's facing. Our analysis shows 2 warning signs for Lavvi Empreendimentos Imobiliários (1 is a bit concerning!) and we strongly recommend you look at them before investing.

Our examination of Lavvi Empreendimentos Imobiliários has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. But there are plenty of other ways to inform your opinion of a company. 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. 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 with significant insider holdings 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.