Investors Shouldn't Be Too Comfortable With Entertainment Network (India)'s (NSE:ENIL) Earnings

Investors were disappointed with Entertainment Network (India) Limited's (NSE:ENIL) earnings, despite the strong profit numbers. We think that the market might be paying attention to some underlying factors that they find to be concerning.

View our latest analysis for Entertainment Network (India)

Zooming In On Entertainment Network (India)'s Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. 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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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".

Over the twelve months to September 2024, Entertainment Network (India) recorded an accrual ratio of -0.20. Therefore, its statutory earnings were very significantly less than its free cashflow. Indeed, in the last twelve months it reported free cash flow of ₹1.1b, well over the ₹229.1m it reported in profit. Entertainment Network (India) shareholders are no doubt pleased that free cash flow improved over the last twelve months. Having said that, there is more to the story. We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Entertainment Network (India).

The Impact Of Unusual Items On Profit

Surprisingly, given Entertainment Network (India)'s accrual ratio implied strong cash conversion, its paper profit was actually boosted by ₹146m in unusual items. We can't deny that higher profits generally leave us optimistic, but we'd prefer it if the profit were to be sustainable. We ran the numbers on most publicly listed companies worldwide, and it's very common for unusual items to be once-off in nature. Which is hardly surprising, given the name. We can see that Entertainment Network (India)'s positive unusual items were quite significant relative to its profit in the year to September 2024. All else being equal, this would likely have the effect of making the statutory profit a poor guide to underlying earnings power.

Our Take On Entertainment Network (India)'s Profit Performance

In conclusion, Entertainment Network (India)'s accrual ratio suggests its statutory earnings are of good quality, but on the other hand the profits were boosted by unusual items. Given the contrasting considerations, we don't have a strong view as to whether Entertainment Network (India)'s profits are an apt reflection of its underlying potential for profit. So while earnings quality is important, it's equally important to consider the risks facing Entertainment Network (India) at this point in time. At Simply Wall St, we found 1 warning sign for Entertainment Network (India) and we think they deserve your attention.

Our examination of Entertainment Network (India) has focussed on certain factors that can make its earnings look better than they are. 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 with significant insider holdings 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.