Ludan Engineering's (TLV:LUDN) Earnings Are Growing But Is There More To The Story?

Many investors consider it preferable to invest in profitable companies over unprofitable ones, because profitability suggests a business is sustainable. However, sometimes companies receive a one-off boost (or reduction) to their profit, and it's not always clear whether statutory profits are a good guide, going forward. This article will consider whether Ludan Engineering's (TLV:LUDN) statutory profits are a good guide to its underlying earnings.

While Ludan Engineering was able to generate revenue of ₪539.6m in the last twelve months, we think its profit result of ₪12.7m was more important. The chart below shows how profit has actually increased over the last three years, even while revenue has declined.

See our latest analysis for Ludan Engineering

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. Today, we'll discuss Ludan Engineering's free cashflow relative to its earnings, and consider what that tells us about the company. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Ludan Engineering.

A Closer Look At Ludan Engineering'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. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Over the twelve months to September 2020, Ludan Engineering recorded an accrual ratio of -0.55. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. In fact, it had free cash flow of ₪73m in the last year, which was a lot more than its statutory profit of ₪12.7m. Ludan Engineering shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Our Take On Ludan Engineering's Profit Performance

Happily for shareholders, Ludan Engineering produced plenty of free cash flow to back up its statutory profit numbers. Because of this, we think Ludan Engineering's underlying earnings potential is as good as, or possibly even better, than the statutory profit makes it seem! And on top of that, its earnings per share have grown at an extremely impressive rate over the last three years. Of course, we've only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. If you want to do dive deeper into Ludan Engineering, you'd also look into what risks it is currently facing. You'd be interested to know, that we found 3 warning signs for Ludan Engineering and you'll want to know about these.

This note has only looked at a single factor that sheds light on the nature of Ludan Engineering's profit. But there are plenty of other ways to inform your opinion of a company. 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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