We Think Shareholders Should Be Aware Of Some Factors Beyond A B Infrabuild's (NSE:ABINFRA) Profit

A B Infrabuild Limited (NSE:ABINFRA) recently released a strong earnings report, and the market responded by raising the share price. However, we think that shareholders should be aware of some other factors beyond the profit numbers.

See our latest analysis for A B Infrabuild

Examining Cashflow Against A B Infrabuild'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). 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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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. 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".

Over the twelve months to March 2024, A B Infrabuild recorded an accrual ratio of 0.42. As a general rule, that bodes poorly for future profitability. And indeed, during the period the company didn't produce any free cash flow whatsoever. Even though it reported a profit of ₹114.2m, a look at free cash flow indicates it actually burnt through ₹257m in the last year. It's worth noting that A B Infrabuild generated positive FCF of ₹115m a year ago, so at least they've done it in the past. Unfortunately for shareholders, the company has also been issuing new shares, diluting their share of future earnings. The good news for shareholders is that A B Infrabuild's accrual ratio was much better last year, so this year's poor reading might simply be a case of a short term mismatch between profit and FCF. As a result, some shareholders may be looking for stronger cash conversion in the current year.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of A B Infrabuild.

One essential aspect of assessing earnings quality is to look at how much a company is diluting shareholders. In fact, A B Infrabuild increased the number of shares on issue by 29% over the last twelve months by issuing new shares. That means its earnings are split among a greater number of shares. To talk about net income, without noticing earnings per share, is to be distracted by the big numbers while ignoring the smaller numbers that talk to per share value. You can see a chart of A B Infrabuild's EPS by clicking here.

A Look At The Impact Of A B Infrabuild's Dilution On Its Earnings Per Share (EPS)

Three years ago, A B Infrabuild lost money. The good news is that profit was up 51% in the last twelve months. But EPS was far less impressive, dropping 57% in that time. This shows how dangerous it is to rely on net income alone, when measuring growth. And so, you can see quite clearly that dilution is having a rather significant impact on shareholders.

In the long term, if A B Infrabuild's earnings per share can increase, then the share price should too. However, if its profit increases while its earnings per share stay flat (or even fall) then shareholders might not see much benefit. For the ordinary retail shareholder, EPS is a great measure to check your hypothetical "share" of the company's profit.

Our Take On A B Infrabuild's Profit Performance

In conclusion, A B Infrabuild has weak cashflow relative to earnings, which indicates lower quality earnings, and the dilution means that shareholders now own a smaller proportion of the company (assuming they maintained the same number of shares). Considering all this we'd argue A B Infrabuild's profits probably give an overly generous impression of its sustainable level of profitability. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. Be aware that A B Infrabuild is showing 4 warning signs in our investment analysis and 1 of those doesn't sit too well with us...

Our examination of A B Infrabuild has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. But there is always more to discover if you are capable of focussing your mind on minutiae. Some people consider a high return on equity to be a good sign of a quality business. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks with high insider ownership.

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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.