Is There More To The Story Than Expleo Solutions's (NSE:EXPLEOSOL) Earnings Growth?

It might be old fashioned, but we really like to invest in companies that make a profit, each and every year. That said, the current statutory profit is not always a good guide to a company's underlying profitability. This article will consider whether Expleo Solutions' (NSE:EXPLEOSOL) statutory profits are a good guide to its underlying earnings.

It's good to see that over the last twelve months Expleo Solutions made a profit of ₹511.7m on revenue of ₹2.93b. Happily, it has grown both its profit and revenue over the last three years, as you can see in the chart below.

See our latest analysis for Expleo Solutions

Importantly, statutory profits are not always the best tool for understanding a company's true earnings power, so it's well worth examining profits in a little more detail. As a result, we think it's well worth considering what Expleo Solutions' cashflow (when compared to its earnings) can tell us about the nature of its statutory profit. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Expleo Solutions.

Examining Cashflow Against Expleo Solutions' 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.

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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Expleo Solutions has an accrual ratio of 0.36 for the year to September 2020. Therefore, we know that it's free cashflow was significantly lower than its statutory profit, raising questions about how useful that profit figure really is. In fact, it had free cash flow of ₹332m in the last year, which was a lot less than its statutory profit of ₹511.7m. At this point we should mention that Expleo Solutions did manage to increase its free cash flow in the last twelve months

Our Take On Expleo Solutions' Profit Performance

As we discussed above, we think Expleo Solutions' earnings were not supported by free cash flow, which might concern some investors. As a result, we think it may well be the case that Expleo Solutions' underlying earnings power is lower than its statutory profit. But the good news is that its EPS growth over the last three years has been very impressive. The goal of this article has been to assess how well we can rely on the statutory earnings to reflect the company's potential, but there is plenty more to consider. If you want to do dive deeper into Expleo Solutions, you'd also look into what risks it is currently facing. For example, Expleo Solutions has 3 warning signs (and 1 which is a bit concerning) we think you should know about.

Today we've zoomed in on a single data point to better understand the nature of Expleo Solutions' profit. But there is always more to discover if you are capable of focussing your mind on minutiae. Some people consider a high return on equity to be a good sign of a quality business. 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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