Menang Corporation (M) Berhad's (KLSE:MENANG) Solid Earnings May Rest On Weak Foundations

The stock price didn't jump after Menang Corporation (M) Berhad (KLSE:MENANG) posted decent earnings last week. We think that investors might be worried about some concerning underlying factors.

Check out our latest analysis for Menang Corporation (M) Berhad

Examining Cashflow Against Menang Corporation (M) 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. To get the accrual ratio we first subtract FCF from profit for a period, and then divide that number by the average operating assets for the period. The ratio shows us how much a company's profit exceeds its FCF.

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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

Menang Corporation (M) Berhad has an accrual ratio of -0.15 for the year to December 2024. Therefore, its statutory earnings were very significantly less than its free cashflow. To wit, it produced free cash flow of RM139m during the period, dwarfing its reported profit of RM25.1m. Menang Corporation (M) Berhad's free cash flow improved over the last year, which is generally good to see. Notably, the company has issued new shares, thus diluting existing shareholders and reducing 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 Menang Corporation (M) Berhad.

In order to understand the potential for per share returns, it is essential to consider how much a company is diluting shareholders. In fact, Menang Corporation (M) Berhad increased the number of shares on issue by 36% over the last twelve months by issuing new shares. As a result, its net income is now split between 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 Menang Corporation (M) Berhad's EPS by clicking here.

How Is Dilution Impacting Menang Corporation (M) Berhad's Earnings Per Share (EPS)?

As you can see above, Menang Corporation (M) Berhad has been growing its net income over the last few years, with an annualized gain of 170% over three years. In comparison, earnings per share only gained 115% over the same period. And at a glance the 26% gain in profit over the last year impresses. On the other hand, earnings per share are only up 6.4% in that time. 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 Menang Corporation (M) Berhad shareholders will want to see that EPS figure continue to increase. However, if its profit increases while its earnings per share stay flat (or even fall) then shareholders might not see much benefit. For that reason, you could say that EPS is more important that net income in the long run, assuming the goal is to assess whether a company's share price might grow.

Our Take On Menang Corporation (M) Berhad's Profit Performance

At the end of the day, Menang Corporation (M) Berhad is diluting shareholders which will dampen earnings per share growth, but its accrual ratio showed it can back up its profits with free cash flow. Given the contrasting considerations, we don't have a strong view as to whether Menang Corporation (M) Berhad's profits are an apt reflection of its underlying potential for profit. In light of this, if you'd like to do more analysis on the company, it's vital to be informed of the risks involved. Every company has risks, and we've spotted 1 warning sign for Menang Corporation (M) Berhad you should know about.

In this article we've looked at a number of factors that can impair the utility of profit numbers, as a guide to a business. But there is always more to discover if you are capable of focussing your mind on minutiae. 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 with high insider ownership.

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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.