Here's Why We Think James Cropper's (LON:CRPR) Statutory Earnings Might Be Conservative

Broadly speaking, profitable businesses are less risky than unprofitable ones. Having said that, sometimes statutory profit levels are not a good guide to ongoing profitability, because some short term one-off factor has impacted profit levels. In this article, we'll look at how useful this year's statutory profit is, when analysing James Cropper (LON:CRPR).

While James Cropper was able to generate revenue of UK£86.4m in the last twelve months, we think its profit result of UK£3.19m was more important. Below, you can see that both its revenue and its profit have fallen over the last three years.

Check out our latest analysis for James Cropper

Importantly, statutory profits are not always the best tool for understanding a company's true earnings power, so it's well worth examining profits in a little more detail. So today we'll look at what James Cropper's cashflow tells us about the quality of its earnings. 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.

Examining Cashflow Against James Cropper'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.

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".

James Cropper has an accrual ratio of -0.23 for the year to September 2020. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. Indeed, in the last twelve months it reported free cash flow of UK£10m, well over the UK£3.19m it reported in profit. Notably, James Cropper had negative free cash flow last year, so the UK£10m it produced this year was a welcome improvement.

Our Take On James Cropper's Profit Performance

Happily for shareholders, James Cropper produced plenty of free cash flow to back up its statutory profit numbers. Because of this, we think James Cropper's underlying earnings potential is as good as, or possibly even better, than the statutory profit makes it seem! And the EPS is up 17% over the last twelve months. The goal of this article has been to assess how well we can rely on the statutory earnings to reflect the company's potential, but there is plenty more to consider. If you want to do dive deeper into James Cropper, you'd also look into what risks it is currently facing. While conducting our analysis, we found that James Cropper has 1 warning sign and it would be unwise to ignore this.

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

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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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