Are Banswara Syntex's (NSE:BANSWRAS) Statutory Earnings A Good Reflection Of Its Earnings Potential?

Statistically speaking, it is less risky to invest in profitable companies than in unprofitable ones. 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 Banswara Syntex (NSE:BANSWRAS).

It's good to see that over the last twelve months Banswara Syntex made a profit of ₹88.4m on revenue of ₹9.10b. Below, you can see that both its revenue and its profit have fallen over the last three years.

View our latest analysis for Banswara Syntex

Of course, when it comes to statutory profit, the devil is often in the detail, and we can get a better sense for a company by diving deeper into the financial statements. So today we'll look at what Banswara Syntex's cashflow, tax benefits and unusual items tell us about the quality of its earnings. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Banswara Syntex.

A Closer Look At Banswara Syntex's Earnings

Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. 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. 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.

For the year to September 2020, Banswara Syntex had an accrual ratio of -0.31. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of ₹2.1b in the last year, which was a lot more than its statutory profit of ₹88.4m. Banswara Syntex shareholders are no doubt pleased that free cash flow improved over the last twelve months. Having said that it seems that a recent tax benefit and some unusual items have impacted its profit (and this its accrual ratio).

How Do Unusual Items Influence Profit?

Surprisingly, given Banswara Syntex's accrual ratio implied strong cash conversion, its paper profit was actually boosted by ₹46m in unusual items. While we like to see profit increases, we tend to be a little more cautious when unusual items have made a big contribution. We ran the numbers on most publicly listed companies worldwide, and it's very common for unusual items to be once-off in nature. And, after all, that's exactly what the accounting terminology implies. Assuming those unusual items don't show up again in the current year, we'd thus expect profit to be weaker next year (in the absence of business growth, that is).

An Unusual Tax Situation

In addition to the notable accrual ratio, we can see that Banswara Syntex received a tax benefit of ₹53m. This is of course a bit out of the ordinary, given it is more common for companies to be paying tax than receiving tax benefits! The receipt of a tax benefit is obviously a good thing, on its own. However, the devil in the detail is that these kind of benefits only impact in the year they are booked, and are often one-off in nature. In the likely event the tax benefit is not repeated, we'd expect to see its statutory profit levels drop, at least in the absence of strong growth. So while we think it's great to receive a tax benefit, it does tend to imply an increased risk that the statutory profit overstates the sustainable earnings power of the business.

Our Take On Banswara Syntex's Profit Performance

In conclusion, Banswara Syntex's accrual ratio suggests its earnings are well backed by cash but its boost from unusual items, and a tax benefit, probably mean that the statutory number make the company seem more profitable than it is at an underlying level. Based on these factors, we think it's very unlikely that Banswara Syntex's statutory profits make it seem much weaker than it is. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. For example, we've found that Banswara Syntex has 6 warning signs (1 is a bit concerning!) that deserve your attention before going any further with your analysis.

In this article we've looked at a number of factors that can impair the utility of profit numbers, as a guide to a business. 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. 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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