Are Balmer Lawrie's (NSE:BALMLAWRIE) Statutory Earnings A Good Reflection Of Its Earnings Potential?

It might be old fashioned, but we really like to invest in companies that make a profit, each and every year. 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. In this article, we'll look at how useful this year's statutory profit is, when analysing Balmer Lawrie (NSE:BALMLAWRIE).

While Balmer Lawrie was able to generate revenue of ₹13.6b in the last twelve months, we think its profit result of ₹1.16b was more important. In the last few years both its revenue and its profit have fallen, as you can see in the chart below.

Check out our latest analysis for Balmer Lawrie

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. As a result, we think it's well worth considering what Balmer Lawrie'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 Balmer Lawrie.

Examining Cashflow Against Balmer Lawrie'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. 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. That is not intended to imply we should worry about a positive accrual ratio, but it's worth noting where the accrual ratio is rather high. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Over the twelve months to September 2020, Balmer Lawrie recorded an accrual ratio of -0.11. That indicates that its free cash flow was a fair bit more than its statutory profit. To wit, it produced free cash flow of ₹2.2b during the period, dwarfing its reported profit of ₹1.16b. Balmer Lawrie shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Our Take On Balmer Lawrie's Profit Performance

As we discussed above, Balmer Lawrie has perfectly satisfactory free cash flow relative to profit. Based on this observation, we consider it likely that Balmer Lawrie's statutory profit actually understates its earnings potential! On the other hand, its EPS actually shrunk in the last twelve months. 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. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. When we did our research, we found 2 warning signs for Balmer Lawrie (1 can't be ignored!) that we believe deserve your full attention.

Today we've zoomed in on a single data point to better understand the nature of Balmer Lawrie's 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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