PMB Technology Berhad's (KLSE:PMBTECH) Earnings Are Growing But Is There More To The Story?

Broadly speaking, profitable businesses are less risky than unprofitable ones. Having said that, sometimes statutory profit levels are not a good guide to ongoing profitability, because some short term one-off factor has impacted profit levels. Today we'll focus on whether this year's statutory profits are a good guide to understanding PMB Technology Berhad (KLSE:PMBTECH).

While PMB Technology Berhad was able to generate revenue of RM500.0m in the last twelve months, we think its profit result of RM13.8m was more important. We know some investors love those high revenue growth stocks, but we do like to look at profit, even if it is, perhaps, a bit old fashioned. In the chart below, you can see that its profit and revenue have both grown over the last three years.

Check out our latest analysis for PMB Technology Berhad

Importantly, statutory profits are not always the best tool for understanding a company's true earnings power, so it's well worth examining profits in a little more detail. So today we'll look at what PMB Technology Berhad's cashflow tells us about the quality of its earnings. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of PMB Technology Berhad.

A Closer Look At PMB Technology 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. 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. 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. 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, PMB Technology Berhad recorded an accrual ratio of 0.26. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. Even though it reported a profit of RM13.8m, a look at free cash flow indicates it actually burnt through RM183m in the last year. We also note that PMB Technology Berhad's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of RM183m.

Our Take On PMB Technology Berhad's Profit Performance

PMB Technology 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 PMB Technology Berhad's true underlying earnings power is actually less than its statutory profit. The good news is that, its earnings per share increased by 71% in the last year. Of course, we've only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. When we did our research, we found 3 warning signs for PMB Technology Berhad (2 are a bit concerning!) that we believe deserve your full attention.

This note has only looked at a single factor that sheds light on the nature of PMB Technology Berhad'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. 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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