The recent earnings posted by Abko Co., Ltd. (KOSDAQ:129890) were solid, but the stock didn't move as much as we expected. We believe that shareholders have noticed some concerning factors beyond the statutory profit numbers.
A Closer Look At Abko'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. 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 having an accrual ratio above zero is of little concern, we do think it's worth noting when a company has a relatively high accrual ratio. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.
Over the twelve months to December 2020, Abko recorded an accrual ratio of 1.01. Statistically speaking, that's a real negative for future earnings. To wit, the company did not generate one whit of free cashflow in that time. In the last twelve months it actually had negative free cash flow, with an outflow of ₩17b despite its profit of ₩18.2b, mentioned above. As it happens we don't have the data on what Abko produced by way of free cashflow, the year before, which is a pity.
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.
Our Take On Abko's Profit Performance
As we have made quite clear, we're a bit worried that Abko didn't back up the last year's profit with free cashflow. As a result, we think it may well be the case that Abko's underlying earnings power is lower than its statutory profit. 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. If you want to do dive deeper into Abko, you'd also look into what risks it is currently facing. For example, Abko has 3 warning signs (and 2 which are potentially serious) we think you should know about.
This note has only looked at a single factor that sheds light on the nature of Abko's profit. 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. 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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