E.A. Technique (M) Berhad (KLSE:EATECH) Shareholders Should Be Cautious Despite Solid Earnings

Solid profit numbers didn't seem to be enough to please E.A. Technique (M) Berhad's (KLSE:EATECH) shareholders. Our analysis suggests they may be concerned about some underlying details.

View our latest analysis for E.A. Technique (M) Berhad

A Closer Look At E.A. Technique (M) Berhad'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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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.

Over the twelve months to September 2024, E.A. Technique (M) Berhad recorded an accrual ratio of 0.84. As a general rule, that bodes poorly for future profitability. 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 RM73m despite its profit of RM132.4m, mentioned above. We saw that FCF was RM25m a year ago though, so E.A. Technique (M) Berhad has at least been able to generate positive FCF in the past. Unfortunately for shareholders, the company has also been issuing new shares, diluting their share of future earnings.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of E.A. Technique (M) Berhad.

In order to understand the potential for per share returns, it is essential to consider how much a company is diluting shareholders. As it happens, E.A. Technique (M) Berhad issued 150% more new shares over the last year. That means its earnings are split among a greater number of shares. Per share metrics like EPS help us understand how much actual shareholders are benefitting from the company's profits, while the net income level gives us a better view of the company's absolute size. You can see a chart of E.A. Technique (M) Berhad's EPS by clicking here.

A Look At The Impact Of E.A. Technique (M) Berhad's Dilution On Its Earnings Per Share (EPS)

E.A. Technique (M) Berhad was losing money three years ago. The good news is that profit was up 234% in the last twelve months. On the other hand, earnings per share are only up 141% over the same period. Therefore, one can observe that the dilution is having a fairly profound effect on shareholder returns.

Changes in the share price do tend to reflect changes in earnings per share, in the long run. So it will certainly be a positive for shareholders if E.A. Technique (M) Berhad can grow EPS persistently. But on the other hand, we'd be far less excited to learn profit (but not EPS) was improving. For the ordinary retail shareholder, EPS is a great measure to check your hypothetical "share" of the company's profit.

Our Take On E.A. Technique (M) Berhad's Profit Performance

As it turns out, E.A. Technique (M) Berhad couldn't match its profit with cashflow and its dilution means that earnings per share growth is lagging net income growth. On reflection, the above-mentioned factors give us the strong impression that E.A. Technique (M) Berhad'sunderlying earnings power is not as good as it might seem, based on the statutory profit numbers. So while earnings quality is important, it's equally important to consider the risks facing E.A. Technique (M) Berhad at this point in time. When we did our research, we found 3 warning signs for E.A. Technique (M) Berhad (2 are significant!) that we believe deserve your full attention.

Our examination of E.A. Technique (M) Berhad has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. 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 with significant insider holdings to be useful.

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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.