Shareholders appeared unconcerned with Grupo Lala, S.A.B. de C.V.'s (BMV:LALAB) lackluster earnings report last week. Our analysis suggests that while the profits are soft, the foundations of the business are strong.
Zooming In On Grupo Lala. de's Earnings
Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. 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. 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 December 2020, Grupo Lala. de had an accrual ratio of -0.14. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. In fact, it had free cash flow of Mex$4.6b in the last year, which was a lot more than its statutory profit of Mex$485.0m. Grupo Lala. de shareholders are no doubt pleased that free cash flow improved over the last twelve months.
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 Grupo Lala. de's Profit Performance
Grupo Lala. de's accrual ratio is solid, and indicates strong free cash flow, as we discussed, above. Because of this, we think Grupo Lala. de's earnings potential is at least as good as it seems, and maybe even better! Unfortunately, though, its earnings per share actually fell back over the last year. 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. So while earnings quality is important, it's equally important to consider the risks facing Grupo Lala. de at this point in time. When we did our research, we found 2 warning signs for Grupo Lala. de (1 shouldn't be ignored!) that we believe deserve your full attention.
This note has only looked at a single factor that sheds light on the nature of Grupo Lala. de'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. 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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