Here's Why Molibdenos y Metales's (SNSE:MOLYMET) Statutory Earnings Are Arguably Too Conservative

As a general rule, we think profitable companies are less risky than companies that lose money. 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 Molibdenos y Metales' (SNSE:MOLYMET) statutory profits are a good guide to its underlying earnings.

We like the fact that Molibdenos y Metales made a profit of US$33.2m on its revenue of US$1.03b, in the last year. While it managed to grow its revenue over the last three years, its profit has moved in the other direction, as you can see in the chart below.

Check out our latest analysis for Molibdenos y Metales

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. Today, we'll discuss Molibdenos y Metales' free cashflow relative to its earnings, and consider what that tells us about the company. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Molibdenos y Metales.

A Closer Look At Molibdenos y Metales' 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.

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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

For the year to September 2020, Molibdenos y Metales had an accrual ratio of -0.20. That indicates that its free cash flow quite significantly exceeded its statutory profit. To wit, it produced free cash flow of US$190m during the period, dwarfing its reported profit of US$33.2m. Given that Molibdenos y Metales had negative free cash flow in the prior corresponding period, the trailing twelve month resul of US$190m would seem to be a step in the right direction.

Our Take On Molibdenos y Metales' Profit Performance

As we discussed above, Molibdenos y Metales' 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 Molibdenos y Metales' statutory profit actually understates its earnings potential! On the other hand, its EPS actually shrunk in the last twelve months. 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. If you'd like to know more about Molibdenos y Metales as a business, it's important to be aware of any risks it's facing. You'd be interested to know, that we found 2 warning signs for Molibdenos y Metales and you'll want to know about these.

Today we've zoomed in on a single data point to better understand the nature of Molibdenos y Metales' 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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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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