Here's Why We Think Dominant Enterprise Berhad's (KLSE:DOMINAN) Statutory Earnings Might Be Conservative

It might be old fashioned, but we really like to invest in companies that make a profit, each and every year. That said, the current statutory profit is not always a good guide to a company's underlying profitability. Today we'll focus on whether this year's statutory profits are a good guide to understanding Dominant Enterprise Berhad (KLSE:DOMINAN).

It's good to see that over the last twelve months Dominant Enterprise Berhad made a profit of RM7.66m on revenue of RM587.3m. The chart below shows that revenue has been flat over the last three years, while profit has actually declined.

View our latest analysis for Dominant Enterprise Berhad

Of course, it is only sensible to look beyond the statutory profits and question how well those numbers represent the sustainable earnings power of the business. As a result, we think it's well worth considering what Dominant Enterprise Berhad's cashflow (when compared to its earnings) can tell us about the nature of its statutory profit. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Dominant Enterprise Berhad.

A Closer Look At Dominant Enterprise Berhad'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. The accrual ratio subtracts the FCF from the profit for a given period, and divides the result by the average operating assets of the company over that time. This ratio tells us how much of a company's profit is not backed by free cashflow.

Therefore, it's actually considered a good thing when a company has a negative accrual ratio, but a bad thing if its accrual ratio is positive. 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. 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 June 2020, Dominant Enterprise Berhad recorded an accrual ratio of -0.23. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of RM95m in the last year, which was a lot more than its statutory profit of RM7.66m. Dominant Enterprise Berhad shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Our Take On Dominant Enterprise Berhad's Profit Performance

Happily for shareholders, Dominant Enterprise Berhad produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Dominant Enterprise Berhad's statutory profit actually understates its earnings potential! On the other hand, its EPS actually shrunk in the last twelve months. The goal of this article has been to assess how well we can rely on the statutory earnings to reflect the company's potential, but there is plenty more to consider. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. For example, Dominant Enterprise Berhad has 4 warning signs (and 1 which is significant) we think you should know about.

This note has only looked at a single factor that sheds light on the nature of Dominant Enterprise Berhad's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. 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.

When trading Dominant Enterprise Berhad or any other investment, use the platform considered by many to be the Professional's Gateway to the Worlds Market, Interactive Brokers. You get the lowest-cost* trading on stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.