Investors Can Find Comfort In Mediaset España Comunicación's (BME:TL5) Earnings Quality

Soft earnings didn't appear to concern Mediaset España Comunicación, S.A.'s (BME:TL5) shareholders over the last week. We think that the softer headline numbers might be getting counterbalanced by some positive underlying factors.

See our latest analysis for Mediaset España Comunicación

Examining Cashflow Against Mediaset España Comunicación'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). 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. 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".

Over the twelve months to December 2022, Mediaset España Comunicación recorded an accrual ratio of -0.16. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. To wit, it produced free cash flow of €331m during the period, dwarfing its reported profit of €178.3m. Mediaset España Comunicación's free cash flow improved over the last year, which is generally good to see.

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 Mediaset España Comunicación's Profit Performance

Happily for shareholders, Mediaset España Comunicación produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Mediaset España Comunicación's statutory profit actually understates its earnings potential! 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. So while earnings quality is important, it's equally important to consider the risks facing Mediaset España Comunicación at this point in time. For example - Mediaset España Comunicación has 1 warning sign we think you should be aware of.

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

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.