Mold-Tek Packaging (NSE:MOLDTKPAC) Strong Profits May Be Masking Some Underlying Issues

Mold-Tek Packaging Limited's (NSE:MOLDTKPAC) healthy profit numbers didn't contain any surprises for investors. We think this is due to investors looking beyond the statutory profits and being concerned with what they see.

See our latest analysis for Mold-Tek Packaging

Examining Cashflow Against Mold-Tek Packaging's 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.

Therefore, it's actually considered a good thing when a company has a negative accrual ratio, but a bad thing if its accrual ratio is positive. 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.

Mold-Tek Packaging has an accrual ratio of 0.27 for the year to March 2022. Unfortunately, that means its free cash flow fell significantly short of its reported profits. Even though it reported a profit of ₹636.5m, a look at free cash flow indicates it actually burnt through ₹511m in the last year. It's worth noting that Mold-Tek Packaging generated positive FCF of ₹90m a year ago, so at least they've done it in the past. 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.

To understand the value of a company's earnings growth, it is imperative to consider any dilution of shareholders' interests. As it happens, Mold-Tek Packaging issued 13% more new shares over the last year. Therefore, each share now receives a smaller portion of profit. 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. Check out Mold-Tek Packaging's historical EPS growth by clicking on this link.

How Is Dilution Impacting Mold-Tek Packaging's Earnings Per Share? (EPS)

Mold-Tek Packaging has improved its profit over the last three years, with an annualized gain of 99% in that time. And the 33% profit boost in the last year certainly seems impressive at first glance. But in comparison, EPS only increased by 32% over the same period. And so, you can see quite clearly that dilution is influencing shareholder earnings.

In the long term, earnings per share growth should beget share price growth. So it will certainly be a positive for shareholders if Mold-Tek Packaging can grow EPS persistently. However, if its profit increases while its earnings per share stay flat (or even fall) then shareholders might not see much benefit. For the ordinary retail shareholder, EPS is a great measure to check your hypothetical "share" of the company's profit.

Our Take On Mold-Tek Packaging's Profit Performance

In conclusion, Mold-Tek Packaging 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 Mold-Tek Packaging's statutory profits might make it look better than it really is on an underlying level. If you want to do dive deeper into Mold-Tek Packaging, you'd also look into what risks it is currently facing. Our analysis shows 3 warning signs for Mold-Tek Packaging (1 is a bit unpleasant!) and we strongly recommend you look at them before investing.

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. 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. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.

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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.