We Think Dongkuk Structures & Construction's (KOSDAQ:100130) Statutory Profit Might Understate Its Earnings Potential

Broadly speaking, profitable businesses are less risky than unprofitable ones. However, sometimes companies receive a one-off boost (or reduction) to their profit, and it's not always clear whether statutory profits are a good guide, going forward. In this article, we'll look at how useful this year's statutory profit is, when analysing Dongkuk Structures & Construction (KOSDAQ:100130).

It's good to see that over the last twelve months Dongkuk Structures & Construction made a profit of ₩8.31b on revenue of ₩287.6b.

View our latest analysis for Dongkuk Structures & Construction

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. Today, we'll discuss Dongkuk Structures & Construction's free cashflow relative to its earnings, and consider what that tells us about the company. That might leave you wondering what analysts are forecasting in terms of future profitability. Luckily, you can click here to see an interactive graph depicting future profitability, based on their estimates.

Examining Cashflow Against Dongkuk Structures & Construction'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. This ratio tells us how much of a company's profit is not backed by free cashflow.

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".

For the year to September 2020, Dongkuk Structures & Construction had an accrual ratio of -0.32. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. To wit, it produced free cash flow of ₩88b during the period, dwarfing its reported profit of ₩8.31b. Given that Dongkuk Structures & Construction had negative free cash flow in the prior corresponding period, the trailing twelve month resul of ₩88b would seem to be a step in the right direction.

Our Take On Dongkuk Structures & Construction's Profit Performance

As we discussed above, Dongkuk Structures & Construction's accrual ratio indicates strong conversion of profit to free cash flow, which is a positive for the company. Because of this, we think Dongkuk Structures & Construction's underlying earnings potential is as good as, or possibly even better, than the statutory profit makes it seem! And the EPS is up 20% over the last twelve months. At the end of the day, it's essential to consider more than just the factors above, if you want to understand the company properly. 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. For example - Dongkuk Structures & Construction has 2 warning signs we think you should be aware of.

This note has only looked at a single factor that sheds light on the nature of Dongkuk Structures & Construction's profit. But there are plenty of other ways to inform your opinion of a company. 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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