Are Andrews Sykes Group's (LON:ASY) Statutory Earnings A Good Guide To Its Underlying Profitability?

Broadly speaking, profitable businesses are less risky than unprofitable ones. That said, the current statutory profit is not always a good guide to a company's underlying profitability. This article will consider whether Andrews Sykes Group's (LON:ASY) statutory profits are a good guide to its underlying earnings.

We like the fact that Andrews Sykes Group made a profit of UK£15.6m on its revenue of UK£75.8m, in the last year. In the chart below, you can see that its profit and revenue have both grown over the last three years.

View our latest analysis for Andrews Sykes Group

Not all profits are equal, and we can learn more about the nature of a company's past profitability by diving deeper into the financial statements. So today we'll look at what Andrews Sykes Group's cashflow tells us about the quality of its earnings. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Andrews Sykes Group.

A Closer Look At Andrews Sykes Group'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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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".

Over the twelve months to June 2020, Andrews Sykes Group recorded an accrual ratio of -0.11. That implies it has good cash conversion, and implies that its free cash flow solidly exceeded its profit last year. Indeed, in the last twelve months it reported free cash flow of UK£20m, well over the UK£15.6m it reported in profit. Andrews Sykes Group shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Our Take On Andrews Sykes Group's Profit Performance

As we discussed above, Andrews Sykes Group has perfectly satisfactory free cash flow relative to profit. Because of this, we think Andrews Sykes Group's earnings potential is at least as good as it seems, and maybe even better! And the EPS is up 5.6% annually, over the last three years. 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 if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. Case in point: We've spotted 1 warning sign for Andrews Sykes Group you should be aware of.

This note has only looked at a single factor that sheds light on the nature of Andrews Sykes Group'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. 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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