Are Melnick Even Desenvolvimento Imobiliário's (BVMF:MELK3) Statutory Earnings A Good Guide To Its Underlying Profitability?

Many investors consider it preferable to invest in profitable companies over unprofitable ones, because profitability suggests a business is sustainable. However, sometimes companies receive a one-off boost (or reduction) to their profit, and it's not always clear whether statutory profits are a good guide, going forward. Today we'll focus on whether this year's statutory profits are a good guide to understanding Melnick Even Desenvolvimento Imobiliário (BVMF:MELK3).

We like the fact that Melnick Even Desenvolvimento Imobiliário made a profit of R$51.1m on its revenue of R$580.2m, in the last year.

See our latest analysis for Melnick Even Desenvolvimento Imobiliário

Not all profits are equal, and we can learn more about the nature of a company's past profitability by diving deeper into the financial statements. So today we'll look at what Melnick Even Desenvolvimento Imobiliário's cashflow tells us about the quality of its earnings. 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.

A Closer Look At Melnick Even Desenvolvimento Imobiliário's 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. The ratio shows us how much a company's profit exceeds its FCF.

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. 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 September 2020, Melnick Even Desenvolvimento Imobiliário recorded an accrual ratio of -0.18. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. To wit, it produced free cash flow of R$161m during the period, dwarfing its reported profit of R$51.1m. Melnick Even Desenvolvimento Imobiliário shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Our Take On Melnick Even Desenvolvimento Imobiliário's Profit Performance

As we discussed above, Melnick Even Desenvolvimento Imobiliário's accrual ratio indicates strong conversion of profit to free cash flow, which is a positive for the company. Based on this observation, we consider it possible that Melnick Even Desenvolvimento Imobiliário's statutory profit actually understates its earnings potential! 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. Obviously, we love to consider the historical data to inform our opinion of a company. But it can be really valuable to consider what other analysts are forecasting. At Simply Wall St, we have analyst estimates which you can view by clicking here.

Today we've zoomed in on a single data point to better understand the nature of Melnick Even Desenvolvimento Imobiliário'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. 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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