Why Hod Assaf Industries' (TLV:HOD) Earnings Are Better Than They Seem

Investors signalled that they were pleased with Hod Assaf Industries Ltd.'s (TLV:HOD) most recent earnings report, with a strong stock price reaction. Looking deeper at the numbers, we found several encouraging factors beyond the headline profit numbers.

See our latest analysis for Hod Assaf Industries

Examining Cashflow Against Hod Assaf 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. 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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

That means a negative accrual ratio is a good thing, because it shows that the company is bringing in more free cash flow than its profit would suggest. 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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

For the year to December 2020, Hod Assaf Industries had an accrual ratio of -0.17. 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 ₪150m in the last year, which was a lot more than its statutory profit of ₪13.9m. Notably, Hod Assaf Industries had negative free cash flow last year, so the ₪150m it produced this year was a welcome improvement.

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

Our Take On Hod Assaf Industries' Profit Performance

As we discussed above, Hod Assaf Industries' accrual ratio indicates strong conversion of profit to free cash flow, which is a positive for the company. Because of this, we think Hod Assaf Industries' underlying earnings potential is as good as, or possibly even better, than the statutory profit makes it seem! And it's also positive that the company showed enough improvement to book a profit this year, after losing money last year. 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. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. For example, we've discovered 2 warning signs that you should run your eye over to get a better picture of Hod Assaf Industries.

Today we've zoomed in on a single data point to better understand the nature of Hod Assaf Industries' profit. But there is always more to discover if you are capable of focussing your mind on minutiae. 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. 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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