Concerns Surrounding eMudhra's (NSE:EMUDHRA) Performance

eMudhra Limited's (NSE:EMUDHRA) robust recent earnings didn't do much to move the stock. However the statutory profit number doesn't tell the whole story, and we have found some factors which might be of concern to shareholders.

Check out our latest analysis for eMudhra

Examining Cashflow Against eMudhra'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. 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. 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.

For the year to March 2024, eMudhra had an accrual ratio of 0.22. Therefore, we know that it's free cashflow was significantly lower than its statutory profit, which is hardly a good thing. Even though it reported a profit of ₹750.6m, a look at free cash flow indicates it actually burnt through ₹13m in the last year. We also note that eMudhra's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of ₹13m. Notably, the company has issued new shares, thus diluting existing shareholders and reducing their share of future earnings.

That might leave you wondering what analysts are forecasting in terms of future profitability. Luckily, you can click here to see an interactive graph depicting future profitability, based on their estimates.

In order to understand the potential for per share returns, it is essential to consider how much a company is diluting shareholders. eMudhra expanded the number of shares on issue by 6.1% over the last year. 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 eMudhra's EPS by clicking here.

How Is Dilution Impacting eMudhra's Earnings Per Share (EPS)?

eMudhra has improved its profit over the last three years, with an annualized gain of 330% in that time. But EPS was only up 291% per year, in the exact same period. And at a glance the 22% gain in profit over the last year impresses. But in comparison, EPS only increased by 17% over the same period. Therefore, the dilution is having a noteworthy influence on shareholder returns.

In the long term, earnings per share growth should beget share price growth. So eMudhra shareholders will want to see that EPS figure continue to increase. But on the other hand, we'd be far less excited to learn profit (but not EPS) was improving. For the ordinary retail shareholder, EPS is a great measure to check your hypothetical "share" of the company's profit.

Our Take On eMudhra's Profit Performance

In conclusion, eMudhra has weak cashflow relative to earnings, which indicates lower quality earnings, and the dilution means its earnings per share growth is weaker than its profit growth. Considering all this we'd argue eMudhra'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. Case in point: We've spotted 3 warning signs for eMudhra you should be mindful of and 1 of them is potentially serious.

In this article we've looked at a number of factors that can impair the utility of profit numbers, and we've come away cautious. 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. 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. 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.