Robust Earnings May Not Tell The Whole Story For Likhitha Infrastructure (NSE:LIKHITHA)

Despite posting some strong earnings, the market for Likhitha Infrastructure Limited's (NSE:LIKHITHA) stock hasn't moved much. We did some digging, and we found some concerning factors in the details.

See our latest analysis for Likhitha Infrastructure

Examining Cashflow Against Likhitha Infrastructure'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. To get the accrual ratio we first subtract FCF from profit for a period, and then divide that number by the average operating assets for the 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. 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Likhitha Infrastructure has an accrual ratio of 0.51 for the year to March 2021. 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. Over the last year it actually had negative free cash flow of ₹17m, in contrast to the aforementioned profit of ₹289.9m. We saw that FCF was ₹176m a year ago though, so Likhitha Infrastructure has at least been able to generate positive FCF in the past.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Likhitha Infrastructure.

Our Take On Likhitha Infrastructure's Profit Performance

As we discussed above, we think Likhitha Infrastructure's earnings were not supported by free cash flow, which might concern some investors. For this reason, we think that Likhitha Infrastructure'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 the good news is that its EPS growth over the last three years has been very impressive. At the end of the day, it's essential to consider more than just the factors above, if you want to understand the company properly. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. Be aware that Likhitha Infrastructure is showing 2 warning signs in our investment analysis and 1 of those is significant...

Today we've zoomed in on a single data point to better understand the nature of Likhitha Infrastructure's profit. But there are plenty of other ways to inform your opinion of a company. 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. 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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