Here's Why We Think Computer Direct Group's (TLV:CMDR) Statutory Earnings Might Be Conservative

As a general rule, we think profitable companies are less risky than companies that lose money. 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. This article will consider whether Computer Direct Group's (TLV:CMDR) statutory profits are a good guide to its underlying earnings.

It's good to see that over the last twelve months Computer Direct Group made a profit of ₪37.4m on revenue of ₪1.72b. In the chart below, you can see that its profit and revenue have both grown over the last three years, although its profit has slipped in the last twelve months.

See our latest analysis for Computer Direct Group

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. As a result, we think it's well worth considering what Computer Direct Group's cashflow (when compared to its earnings) can tell us about the nature of its statutory profit. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Computer Direct Group.

Zooming In On Computer Direct Group's Earnings

In high finance, the key ratio used to measure how well a company converts reported profits into free cash flow (FCF) is the accrual ratio (from cashflow). In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. The ratio shows us how much a company's profit exceeds its FCF.

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.

Computer Direct Group has an accrual ratio of -0.30 for the year to September 2020. Therefore, its statutory earnings were very significantly less than its free cashflow. To wit, it produced free cash flow of ₪182m during the period, dwarfing its reported profit of ₪37.4m. Computer Direct Group shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Our Take On Computer Direct Group's Profit Performance

Happily for shareholders, Computer Direct Group produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Computer Direct Group's statutory profit actually understates its earnings potential! And we are pleased to note that EPS is at least heading in the right direction over the last three years. 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'd like to know more about Computer Direct Group as a business, it's important to be aware of any risks it's facing. To that end, you should learn about the 4 warning signs we've spotted with Computer Direct Group (including 1 which can't be ignored).

Today we've zoomed in on a single data point to better understand the nature of Computer Direct Group'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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