Investors Can Find Comfort In Logicom's (CSE:LOG) Earnings Quality

Shareholders appeared unconcerned with Logicom Public Limited's (CSE:LOG) lackluster earnings report last week. We think that the softer headline numbers might be getting counterbalanced by some positive underlying factors.

View our latest analysis for Logicom

A Closer Look At Logicom'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). 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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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. 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 December 2020, Logicom recorded an accrual ratio of -0.19. That indicates that its free cash flow quite significantly exceeded its statutory profit. In fact, it had free cash flow of €73m in the last year, which was a lot more than its statutory profit of €23.3m. Logicom's free cash flow improved over the last year, which is generally good to see.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Logicom.

Our Take On Logicom's Profit Performance

As we discussed above, Logicom's accrual ratio indicates strong conversion of profit to free cash flow, which is a positive for the company. Because of this, we think Logicom's underlying earnings potential is as good as, or possibly even better, than the statutory profit makes it seem! And the EPS is up 48% annually, over the last three years. 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. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. For example - Logicom has 3 warning signs we think you should be aware of.

Today we've zoomed in on a single data point to better understand the nature of Logicom's profit. But there are plenty of other ways to inform your opinion of a company. 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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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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