Payton Industries' (TLV:PAYT) Earnings Offer More Than Meets The Eye

Despite posting healthy earnings, Payton Industries Ltd's (TLV:PAYT ) stock has been quite weak. Our analysis suggests that there are some reasons for hope that investors should be aware of.

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Examining Cashflow Against Payton Industries' Earnings

As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

For the year to December 2024, Payton Industries had an accrual ratio of -0.19. That indicates that its free cash flow quite significantly exceeded its statutory profit. In fact, it had free cash flow of US$14m in the last year, which was a lot more than its statutory profit of US$9.90m. Payton Industries' free cash flow actually declined over the last year, which is disappointing, like non-biodegradable balloons. Unfortunately for shareholders, the company has also been issuing new shares, diluting their share of future earnings.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Payton Industries .

One essential aspect of assessing earnings quality is to look at how much a company is diluting shareholders. As it happens, Payton Industries issued 22% more new shares over the last year. As a result, its net income is now split between a greater number of shares. To celebrate net income while ignoring dilution is like rejoicing because you have a single slice of a larger pizza, but ignoring the fact that the pizza is now cut into many more slices. Check out Payton Industries' historical EPS growth by clicking on this link .

A Look At The Impact Of Payton Industries' Dilution On Its Earnings Per Share (EPS)

Payton Industries has improved its profit over the last three years, with an annualized gain of 84% in that time. But EPS was only up 60% per year, in the exact same period. While we did see a very small decrease, net profit was basically flat over the last year. In contrast, earnings per share are actually down a full 13%, over the last twelve months. Therefore, the dilution is having a noteworthy influence on shareholder returns.

If Payton Industries' EPS can grow over time then that drastically improves the chances of the share price moving in the same direction. But on the other hand, we'd be far less excited to learn profit (but not EPS) was improving. For that reason, you could say that EPS is more important that net income in the long run, assuming the goal is to assess whether a company's share price might grow.

Our Take On Payton Industries' Profit Performance

In conclusion, Payton Industries has a strong cashflow relative to earnings, which indicates good quality earnings, but the dilution means its earnings per share are dropping faster than its profit. Based on these factors, we think that Payton Industries' profits are a reasonably conservative guide to its underlying profitability. So while earnings quality is important, it's equally important to consider the risks facing Payton Industries at this point in time. In terms of investment risks, we've identified 2 warning signs with Payton Industries , and understanding them should be part of your investment process.

In this article we've looked at a number of factors that can impair the utility of profit numbers, as a guide to a business. 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 with significant insider holdings to be useful.

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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.