Friedrich Vorwerk Group's (FRA:VH2) Solid Earnings May Rest On Weak Foundations

The recent earnings posted by Friedrich Vorwerk Group SE (FRA:VH2) were solid, but the stock didn't move as much as we expected. We believe that shareholders have noticed some concerning factors beyond the statutory profit numbers.

View our latest analysis for Friedrich Vorwerk Group

Examining Cashflow Against Friedrich Vorwerk Group'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. 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.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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.

For the year to June 2021, Friedrich Vorwerk Group had an accrual ratio of 0.74. As a general rule, that bodes poorly for future profitability. And indeed, during the period the company didn't produce any free cash flow whatsoever. In the last twelve months it actually had negative free cash flow, with an outflow of €6.8m despite its profit of €31.1m, mentioned above. It's worth noting that Friedrich Vorwerk Group generated positive FCF of €33m a year ago, so at least they've done it in the past. One positive for Friedrich Vorwerk Group shareholders is that it's accrual ratio was significantly better last year, providing reason to believe that it may return to stronger cash conversion in the future. As a result, some shareholders may be looking for stronger cash conversion in the current year.

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 Friedrich Vorwerk Group's Profit Performance

As we have made quite clear, we're a bit worried that Friedrich Vorwerk Group didn't back up the last year's profit with free cashflow. As a result, we think it may well be the case that Friedrich Vorwerk Group's underlying earnings power is lower than its statutory profit. 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 Friedrich Vorwerk Group as a business, it's important to be aware of any risks it's facing. For example, Friedrich Vorwerk Group has 2 warning signs (and 1 which can't be ignored) we think you should know about.

This note has only looked at a single factor that sheds light on the nature of Friedrich Vorwerk Group's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. For example, many people consider a high return on equity as an indication of favorable business economics, while others like to 'follow the money' and search out stocks that insiders are buying. 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. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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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