Additional Considerations Required While Assessing Jai Balaji Industries' (NSE:JAIBALAJI) Strong Earnings

Despite posting some strong earnings, the market for Jai Balaji Industries Limited's (NSE:JAIBALAJI) stock hasn't moved much. Our analysis suggests that this might be because shareholders have noticed some concerning underlying factors.

See our latest analysis for Jai Balaji Industries

Zooming In On Jai Balaji Industries' Earnings

In high finance, the key ratio used to measure how well a company converts reported profits into free cash flow (FCF) is the accrual ratio (from cashflow). 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. The ratio shows us how much a company's profit exceeds its FCF.

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.

Over the twelve months to March 2024, Jai Balaji Industries recorded an accrual ratio of 0.26. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. To wit, it produced free cash flow of ₹4.6b during the period, falling well short of its reported profit of ₹8.80b. At this point we should mention that Jai Balaji Industries did manage to increase its free cash flow in the last twelve months Unfortunately for shareholders, the company has also been issuing new shares, diluting their share of future earnings. The good news for shareholders is that Jai Balaji Industries' accrual ratio was much better last year, so this year's poor reading might simply be a case of a short term mismatch between profit and FCF. As a result, some shareholders may be looking for stronger cash conversion in the current year.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Jai Balaji Industries.

In order to understand the potential for per share returns, it is essential to consider how much a company is diluting shareholders. Jai Balaji Industries expanded the number of shares on issue by 8.7% over the last year. As a result, its net income is now split between a greater number of shares. To celebrate net income while ignoring dilution is like rejoicing because you have a single slice of a larger pizza, but ignoring the fact that the pizza is now cut into many more slices. Check out Jai Balaji Industries' historical EPS growth by clicking on this link.

A Look At The Impact Of Jai Balaji Industries' Dilution On Its Earnings Per Share (EPS)

Three years ago, Jai Balaji Industries lost money. The good news is that profit was up 1,421% in the last twelve months. But EPS was less impressive, up only 1,143% in that time. 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 Jai Balaji Industries shareholders will want to see that EPS figure continue to increase. However, if its profit increases while its earnings per share stay flat (or even fall) then shareholders might not see much benefit. For that reason, you could say that EPS is more important that net income in the long run, assuming the goal is to assess whether a company's share price might grow.

Our Take On Jai Balaji Industries' Profit Performance

In conclusion, Jai Balaji Industries 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. For the reasons mentioned above, we think that a perfunctory glance at Jai Balaji Industries' statutory profits might make it look better than it really is on an underlying level. 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 Jai Balaji Industries (1 can't be ignored!) that we believe deserve your full attention.

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 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 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.