Concerns Surrounding Supreme Power Equipment's (NSE:SUPREMEPWR) Performance

The recent earnings posted by Supreme Power Equipment Limited (NSE:SUPREMEPWR) were solid, but the stock didn't move as much as we expected. We think this is due to investors looking beyond the statutory profits and being concerned with what they see.

See our latest analysis for Supreme Power Equipment

Examining Cashflow Against Supreme Power Equipment's 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. This ratio tells us how much of a company's profit is not backed by free cashflow.

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 it's not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Over the twelve months to September 2024, Supreme Power Equipment recorded an accrual ratio of 0.38. As a general rule, that bodes poorly for future profitability. To wit, the company did not generate one whit of free cashflow in that time. Over the last year it actually had negative free cash flow of ₹129m, in contrast to the aforementioned profit of ₹146.7m. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of ₹129m, this year, indicates high risk.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Supreme Power Equipment.

Our Take On Supreme Power Equipment's Profit Performance

As we discussed above, we think Supreme Power Equipment's earnings were not supported by free cash flow, which might concern some investors. For this reason, we think that Supreme Power Equipment's statutory profits may be a bad guide to its underlying earnings power, and might give investors an overly positive impression of the company. But on the bright side, its earnings per share have grown at an extremely impressive rate over the last three years. 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. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. When we did our research, we found 3 warning signs for Supreme Power Equipment (1 doesn't sit too well with us!) that we believe deserve your full attention.

Today we've zoomed in on a single data point to better understand the nature of Supreme Power Equipment's profit. 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.