Earnings Troubles May Signal Larger Issues for Popular Vehicles and Services (NSE:PVSL) Shareholders

A lackluster earnings announcement from Popular Vehicles and Services Limited (NSE:PVSL) last week didn't sink the stock price. Our analysis suggests that along with soft profit numbers, investors should be aware of some other underlying weaknesses in the numbers.

See our latest analysis for Popular Vehicles and Services

A Closer Look At Popular Vehicles and Services' 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). 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. 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. 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Popular Vehicles and Services has an accrual ratio of -0.11 for the year to September 2024. That indicates that its free cash flow was a fair bit more than its statutory profit. In fact, it had free cash flow of ₹1.6b in the last year, which was a lot more than its statutory profit of ₹490.5m. Popular Vehicles and Services shareholders are no doubt pleased that free cash flow improved 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 Popular Vehicles and Services.

The Impact Of Unusual Items On Profit

As it happens, there are a few different things to consider when we look at Popular Vehicles and Services' profit and the last one we'll mention is ₹186m gain booked as 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. When we crunched the numbers on thousands of publicly listed companies, we found that a boost from unusual items in a given year is often not repeated the next year. Which is hardly surprising, given the name. Assuming those unusual items don't show up again in the current year, we'd thus expect profit to be weaker next year (in the absence of business growth, that is).

Our Take On Popular Vehicles and Services' Profit Performance

In conclusion, Popular Vehicles and Services' accrual ratio suggests its statutory earnings are of good quality, but on the other hand the profits were boosted by unusual items. Based on these factors, it's hard to tell if Popular Vehicles and Services' profits are a reasonable reflection of its underlying profitability. If you'd like to know more about Popular Vehicles and Services as a business, it's important to be aware of any risks it's facing. For instance, we've identified 3 warning signs for Popular Vehicles and Services (1 is concerning) you should be familiar with.

Our examination of Popular Vehicles and Services has focussed on certain factors that can make its earnings look better than they are. But there is always more to discover if you are capable of focussing your mind on minutiae. 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.