Statutory Profit Doesn't Reflect How Good Tuksu Engineering & ConstructionLtd's (KOSDAQ:026150) Earnings Are

Tuksu Engineering & Construction,Ltd.'s (KOSDAQ:026150) earnings announcement last week was disappointing for investors, despite the decent profit numbers. Our analysis says that investors should be optimistic, as the strong profit is built on solid foundations.

See our latest analysis for Tuksu Engineering & ConstructionLtd

A Closer Look At Tuksu Engineering & ConstructionLtd'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). In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. The ratio shows us how much a company's profit exceeds its FCF.

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. 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.

Tuksu Engineering & ConstructionLtd has an accrual ratio of -0.24 for the year to December 2020. That indicates that its free cash flow quite significantly exceeded its statutory profit. Indeed, in the last twelve months it reported free cash flow of ₩22b, well over the ₩2.40b it reported in profit. Notably, Tuksu Engineering & ConstructionLtd had negative free cash flow last year, so the ₩22b it produced this year was a welcome improvement. 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 Tuksu Engineering & ConstructionLtd.

How Do Unusual Items Influence Profit?

Tuksu Engineering & ConstructionLtd's profit was reduced by unusual items worth ₩1.1b in the last twelve months, and this helped it produce high cash conversion, as reflected by its unusual items. This is what you'd expect to see where a company has a non-cash charge reducing paper profits. While deductions due to unusual items are disappointing in the first instance, there is a silver lining. We looked at thousands of listed companies and found that unusual items are very often one-off in nature. And, after all, that's exactly what the accounting terminology implies. If Tuksu Engineering & ConstructionLtd doesn't see those unusual expenses repeat, then all else being equal we'd expect its profit to increase over the coming year.

Our Take On Tuksu Engineering & ConstructionLtd's Profit Performance

In conclusion, both Tuksu Engineering & ConstructionLtd's accrual ratio and its unusual items suggest that its statutory earnings are probably reasonably conservative. After considering all this, we reckon Tuksu Engineering & ConstructionLtd's statutory profit probably understates its earnings potential! So while earnings quality is important, it's equally important to consider the risks facing Tuksu Engineering & ConstructionLtd at this point in time. In terms of investment risks, we've identified 2 warning signs with Tuksu Engineering & ConstructionLtd, and understanding these bad boys should be part of your investment process.

Our examination of Tuksu Engineering & ConstructionLtd has focussed on certain factors that can make its earnings look better than they are. And it has passed with flying colours. 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. 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. 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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