Robust Earnings May Not Tell The Whole Story For SMIS Corporation Berhad (KLSE:SMISCOR)

SMIS Corporation Berhad's (KLSE:SMISCOR) robust earnings report didn't manage to move the market for its stock. We did some digging, and we found some concerning factors in the details.

Our analysis indicates that SMISCOR is potentially undervalued!

A Closer Look At SMIS Corporation Berhad's Earnings

As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. 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.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Over the twelve months to September 2022, SMIS Corporation Berhad recorded an accrual ratio of 0.24. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. To wit, it produced free cash flow of RM118k during the period, falling well short of its reported profit of RM19.5m. Given that SMIS Corporation Berhad had negative free cash flow in the prior corresponding period, the trailing twelve month resul of RM118k would seem to be a step in the right direction. The good news for shareholders is that SMIS Corporation Berhad's accrual ratio was much better last year, so this year's poor reading might simply be a case of a short term mismatch between profit and FCF. As a result, some shareholders may be looking for stronger cash conversion in the current year.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of SMIS Corporation Berhad.

Our Take On SMIS Corporation Berhad's Profit Performance

SMIS Corporation Berhad's accrual ratio for the last twelve months signifies cash conversion is less than ideal, which is a negative when it comes to our view of its earnings. Therefore, it seems possible to us that SMIS Corporation Berhad's true underlying earnings power is actually less than its statutory profit. The good news is that it earned a profit in the last twelve months, despite its previous loss. 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 SMIS Corporation Berhad at this point in time. Every company has risks, and we've spotted 2 warning signs for SMIS Corporation Berhad you should know about.

Today we've zoomed in on a single data point to better understand the nature of SMIS Corporation Berhad'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. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.