Wärtsilä Oyj Abp's (HEL:WRT1V) Solid Earnings Are Supported By Other Strong Factors

Wärtsilä Oyj Abp's (HEL:WRT1V) strong earnings report was rewarded with a positive stock price move. We did some digging and found some further encouraging factors that investors will like.

See our latest analysis for Wärtsilä Oyj Abp

Examining Cashflow Against Wärtsilä Oyj Abp'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. 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.

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. 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".

Wärtsilä Oyj Abp has an accrual ratio of -0.19 for the year to December 2023. That indicates that its free cash flow quite significantly exceeded its statutory profit. In fact, it had free cash flow of €674m in the last year, which was a lot more than its statutory profit of €258.0m. Notably, Wärtsilä Oyj Abp had negative free cash flow last year, so the €674m it produced this year was a welcome improvement. Having said that, there is more to the story. The accrual ratio is reflecting the impact of unusual items on statutory profit, at least in part.

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.

The Impact Of Unusual Items On Profit

Wärtsilä Oyj Abp's profit was reduced by unusual items worth €54m in the last twelve months, and this helped it produce high cash conversion, as reflected by its unusual items. In a scenario where those unusual items included non-cash charges, we'd expect to see a strong accrual ratio, which is exactly what has happened in this case. It's never great to see unusual items costing the company profits, but on the upside, things might improve sooner rather than later. When we analysed the vast majority of listed companies worldwide, we found that significant unusual items are often not repeated. And, after all, that's exactly what the accounting terminology implies. Assuming those unusual expenses don't come up again, we'd therefore expect Wärtsilä Oyj Abp to produce a higher profit next year, all else being equal.

Our Take On Wärtsilä Oyj Abp's Profit Performance

Considering both Wärtsilä Oyj Abp's accrual ratio and its unusual items, we think its statutory earnings are unlikely to exaggerate the company's underlying earnings power. Looking at all these factors, we'd say that Wärtsilä Oyj Abp's underlying earnings power is at least as good as the statutory numbers would make it seem. While it's really important to consider how well a company's statutory earnings represent its true earnings power, it's also worth taking a look at what analysts are forecasting for the future. Luckily, you can check out what analysts are forecasting by clicking here.

After our examination into the nature of Wärtsilä Oyj Abp's profit, we've come away optimistic for the company. 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. 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.

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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.