The market for Golden Star Resources Ltd.'s (TSE:GSC) shares didn't move much after it posted weak earnings recently. We did some digging, and we believe the earnings are stronger than they seem.
Examining Cashflow Against Golden Star Resources' 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. 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. 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. That is not intended to imply we should worry about a positive accrual ratio, but it's worth noting where the accrual ratio is rather high. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".
Over the twelve months to December 2020, Golden Star Resources recorded an accrual ratio of -0.24. That indicates that its free cash flow quite significantly exceeded its statutory profit. To wit, it produced free cash flow of US$15m during the period, dwarfing its reported profit of US$4.29m. Given that Golden Star Resources had negative free cash flow in the prior corresponding period, the trailing twelve month resul of US$15m would seem to be a step in the right direction.
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.
Our Take On Golden Star Resources' Profit Performance
As we discussed above, Golden Star Resources' 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 Golden Star Resources' statutory profit actually understates its earnings potential! Unfortunately, though, its earnings per share actually fell back over the last year. Of course, we've only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. 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 example, we've discovered 3 warning signs that you should run your eye over to get a better picture of Golden Star Resources.
Today we've zoomed in on a single data point to better understand the nature of Golden Star Resources' 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. 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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