We Believe AstraZeneca Pharma India's (NSE:ASTRAZEN) Earnings Are A Poor Guide For Its Profitability

AstraZeneca Pharma India Limited (NSE:ASTRAZEN) recently released a strong earnings report, and the market responded by raising the share price. Despite the strong profit numbers, we believe that there are some deeper issues which investors should look into.

Check out our latest analysis for AstraZeneca Pharma India

Zooming In On AstraZeneca Pharma 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. 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.

AstraZeneca Pharma India has an accrual ratio of 0.98 for the year to March 2024. Ergo, its free cash flow is significantly weaker than its profit. Statistically speaking, that's a real negative for future earnings. To wit, it produced free cash flow of ₹171m during the period, falling well short of its reported profit of ₹1.62b. AstraZeneca Pharma India shareholders will no doubt be hoping that its free cash flow bounces back next year, since it was down over the last twelve months. Having said that, there is more to the story. The accrual ratio is reflecting the impact of unusual items on statutory profit, at least in part.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of AstraZeneca Pharma India.

The Impact Of Unusual Items On Profit

Given the accrual ratio, it's not overly surprising that AstraZeneca Pharma India's profit was boosted by unusual items worth ₹164m in the last twelve months. While we like to see profit increases, we tend to be a little more cautious when unusual items have made a big contribution. When we analysed the vast majority of listed companies worldwide, we found that significant unusual items are often not repeated. And that's as you'd expect, given these boosts are described as 'unusual'. If AstraZeneca Pharma India doesn't see that contribution repeat, then all else being equal we'd expect its profit to drop over the current year.

Our Take On AstraZeneca Pharma India's Profit Performance

Summing up, AstraZeneca Pharma India received a nice boost to profit from unusual items, but could not match its paper profit with free cash flow. For the reasons mentioned above, we think that a perfunctory glance at AstraZeneca Pharma India's statutory profits might make it look better than it really is on an underlying level. In light of this, if you'd like to do more analysis on the company, it's vital to be informed of the risks involved. Be aware that AstraZeneca Pharma India is showing 2 warning signs in our investment analysis and 1 of those is a bit unpleasant...

Our examination of AstraZeneca Pharma India has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. 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 with high insider ownership.

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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.