Investors Can Find Comfort In DATRON's (ETR:DAR) Earnings Quality

The market for DATRON AG's (ETR:DAR) shares didn't move much after it posted weak earnings recently. Our analysis suggests that while the profits are soft, the foundations of the business are strong.

See our latest analysis for DATRON

Zooming In On DATRON's Earnings

As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. 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. This ratio tells us how much of a company's profit is not backed by free cashflow.

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 it's not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

DATRON has an accrual ratio of -0.20 for the year to December 2020. Therefore, its statutory earnings were very significantly less than its free cashflow. To wit, it produced free cash flow of €5.7m during the period, dwarfing its reported profit of €1.48m. Given that DATRON had negative free cash flow in the prior corresponding period, the trailing twelve month resul of €5.7m 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 DATRON's Profit Performance

As we discussed above, DATRON's accrual ratio indicates strong conversion of profit to free cash flow, which is a positive for the company. Because of this, we think DATRON's underlying earnings potential is as good as, or possibly even better, than the statutory profit makes it seem! 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 DATRON as a business, it's important to be aware of any risks it's facing. At Simply Wall St, we found 2 warning signs for DATRON and we think they deserve your attention.

This note has only looked at a single factor that sheds light on the nature of DATRON'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. 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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