Shareholders Can Be Confident That Gestamp Automoción's (BME:GEST) Earnings Are High Quality

The subdued stock price reaction suggests that Gestamp Automoción, S.A.'s (BME:GEST) strong earnings didn't offer any surprises. Our analysis suggests that investors might be missing some promising details.

View our latest analysis for Gestamp Automoción

Zooming In On Gestamp Automoción'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. 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 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Gestamp Automoción has an accrual ratio of -0.12 for the year to June 2021. Therefore, its statutory earnings were quite a lot less than its free cashflow. Indeed, in the last twelve months it reported free cash flow of €679m, well over the €130.3m it reported in profit. Notably, Gestamp Automoción had negative free cash flow last year, so the €679m it produced this year was a welcome improvement.

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 Gestamp Automoción's Profit Performance

Gestamp Automoción's accrual ratio is solid, and indicates strong free cash flow, as we discussed, above. Based on this observation, we consider it likely that Gestamp Automoción's statutory profit actually understates its earnings potential! And it's also positive that the company showed enough improvement to book a profit this year, after losing money last year. 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 want to do dive deeper into Gestamp Automoción, you'd also look into what risks it is currently facing. While conducting our analysis, we found that Gestamp Automoción has 1 warning sign and it would be unwise to ignore this.

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