Broadly speaking, profitable businesses are less risky than unprofitable ones. Having said that, sometimes statutory profit levels are not a good guide to ongoing profitability, because some short term one-off factor has impacted profit levels. This article will consider whether Matachewan Consolidated Mines' (CVE:MCM.A) statutory profits are a good guide to its underlying earnings.
It's good to see that over the last twelve months Matachewan Consolidated Mines made a profit of CA$1.34m on revenue of CA$1.59m.
Of course, it is only sensible to look beyond the statutory profits and question how well those numbers represent the sustainable earnings power of the business. As a result, we think it's well worth considering what Matachewan Consolidated Mines' cashflow (when compared to its earnings) can tell us about the nature of its statutory profit. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Matachewan Consolidated Mines.
Examining Cashflow Against Matachewan Consolidated Mines' 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. The ratio shows us how much a company's profit exceeds its FCF.
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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.
Over the twelve months to September 2020, Matachewan Consolidated Mines recorded an accrual ratio of 1.46. Ergo, its free cash flow is significantly weaker than its profit. As a general rule, that bodes poorly for future profitability. To wit, it produced free cash flow of CA$87k during the period, falling well short of its reported profit of CA$1.34m. Matachewan Consolidated Mines' free cash flow actually declined over the last year, but it may bounce back next year, since free cash flow is often more volatile than accounting profits.
Our Take On Matachewan Consolidated Mines' Profit Performance
As we have made quite clear, we're a bit worried that Matachewan Consolidated Mines didn't back up the last year's profit with free cashflow. As a result, we think it may well be the case that Matachewan Consolidated Mines' underlying earnings power is lower than its statutory profit. But the happy news is that, while acknowledging we have to look beyond the statutory numbers, those numbers are still improving, with EPS growing at a very high rate over the last year. 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. In light of this, if you'd like to do more analysis on the company, it's vital to be informed of the risks involved. For instance, we've identified 5 warning signs for Matachewan Consolidated Mines (4 are a bit unpleasant) you should be familiar with.
Today we've zoomed in on a single data point to better understand the nature of Matachewan Consolidated Mines' 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. 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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