We Think Mangalore Chemicals & Fertilizers' (NSE:MANGCHEFER) Solid Earnings Are Understated

Despite posting healthy earnings, Mangalore Chemicals & Fertilizers Limited's (NSE:MANGCHEFER ) stock has been quite weak. Along with the solid headline numbers, we think that investors have some reasons for optimism.

Check out our latest analysis for Mangalore Chemicals & Fertilizers

A Closer Look At Mangalore Chemicals & Fertilizers' 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. 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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

For the year to March 2021, Mangalore Chemicals & Fertilizers had an accrual ratio of -0.58. That indicates that its free cash flow quite significantly exceeded its statutory profit. Indeed, in the last twelve months it reported free cash flow of ₹8.6b, well over the ₹671.0m it reported in profit. Mangalore Chemicals & Fertilizers shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Mangalore Chemicals & Fertilizers.

Our Take On Mangalore Chemicals & Fertilizers' Profit Performance

Happily for shareholders, Mangalore Chemicals & Fertilizers produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Mangalore Chemicals & Fertilizers' statutory profit actually understates its earnings potential! And on top of that, its earnings per share have grown at 11% per year over the last three years. 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 Mangalore Chemicals & Fertilizers is showing 3 warning signs in our investment analysis and 1 of those is significant...

This note has only looked at a single factor that sheds light on the nature of Mangalore Chemicals & Fertilizers' 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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