Why Funkwerk's (FRA:FEW) Shaky Earnings Are Just The Beginning Of Its Problems

A lackluster earnings announcement from Funkwerk AG (FRA:FEW) last week didn't sink the stock price. We think that investors are worried about some weaknesses underlying the earnings.

See our latest analysis for Funkwerk

Examining Cashflow Against Funkwerk's Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. 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.

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

For the year to December 2023, Funkwerk had an accrual ratio of 0.26. Therefore, we know that it's free cashflow was significantly lower than its statutory profit, which is hardly a good thing. In fact, it had free cash flow of €7.0m in the last year, which was a lot less than its statutory profit of €17.3m. We note, however, that Funkwerk grew its free cash flow over the last year.

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

Our Take On Funkwerk's Profit Performance

Funkwerk's accrual ratio for the last twelve months signifies cash conversion is less than ideal, which is a negative when it comes to our view of its earnings. Therefore, it seems possible to us that Funkwerk's true underlying earnings power is actually less than its statutory profit. Nonetheless, it's still worth noting that its earnings per share have grown at 28% over the last three years. 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. Our analysis shows 2 warning signs for Funkwerk (1 shouldn't be ignored!) and we strongly recommend you look at them before investing.

Today we've zoomed in on a single data point to better understand the nature of Funkwerk's 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. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.